Webster Financial 10-K 2009
Documents found in this filing:
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2008
Commission File Number: 001-31486
WEBSTER FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter)
Webster Plaza, Waterbury, Connecticut 06702
(Address and zip code of principal executive offices)
Registrants telephone number, including area code: (203) 465-4364
Securities registered pursuant to Section 12(b) of the Act:
Securities registered pursuant to Section 12(g) of the Act Not Applicable
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act of 1933. Yes x No ¨.
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934. Yes ¨ No x.
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨.
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrants knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. x
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of large accelerated filer, accelerated filer, and smaller reporting company in Rule 12B-2 of the Exchange Act.
Indicate by check mark whether the registrant is a shell company (as defined in Exchange Act Rule 12B-2) Yes ¨ No x.
The aggregate market value of the common stock held by non-affiliates of Webster Financial Corporation was approximately $1.0 billion, based on the closing sale price of Common Stock on the New York Stock Exchange on June 30, 2008, the last trading day of the registrants most recently completed second quarter.
The number of shares of common stock outstanding, as of January 31, 2009: 52,870,621.
DOCUMENTS INCORPORATED BY REFERENCE
Part III: Portions of the Definitive Proxy Statement for the Annual Meeting of Shareholders to be held on April 23, 2009.
WEBSTER FINANCIAL CORPORATION AND SUBSIDIARIES
WEBSTER FINANCIAL CORPORATION
2008 FORM 10-K ANNUAL REPORT
TABLE OF CONTENTS
Webster Financial Corporation (Webster or the Company), a bank holding company and financial holding company under the Bank Holding Company Act of 1956, as amended, was incorporated under the laws of Delaware in 1986. Webster, on a consolidated basis, at December 31, 2008 had assets of $17.6 billion and shareholders equity of $1.9 billion. Websters principal assets at December 31, 2008 were all of the outstanding capital stock of Webster Bank, National Association (Webster Bank).
Webster, through Webster Bank and various non-banking financial services subsidiaries, delivers financial services to individuals, families and businesses throughout southern New England and into eastern New York State. Webster also offers equipment financing, commercial real estate lending, asset-based lending, health savings accounts and insurance premium financing on a regional or national basis. Webster provides business and consumer banking, mortgage lending, financial planning, trust and investment services through 181 banking offices, 489 ATMs, telephone banking and its Internet website (www.websteronline.com). Through its HSA Bank division (www.hsabank.com), Webster Bank offers health savings accounts on a nationwide basis. Websters common stock is traded on the New York Stock Exchange under the symbol WBS.
Websters mission statement, the foundation of its operating principles, is stated simply as We Find A Way, to help individuals, families and businesses achieve their financial goals. The Company operates with a local market orientation and with a vision to be New Englands bank. Operating objectives include acquiring and developing customer relationships through marketing, on boarding and cross-sale efforts to fuel internal growth and expanding geographically in contiguous markets through a build and buy strategy. Webster also pursues acquisitions of like-minded partners who share Websters vision to be New Englands bank.
Websters Commercial Banking group takes a direct relationship approach to providing lending, deposit and cash management services to middle-market companies in its four-state franchise territory and commercial real estate loans principally in New England and the mid-Atlantic region. Additionally, it serves as a primary referral source to wealth management and retail operations. Asset-based lending is located in New York with a national presence. All credit underwriting, contract preparation and closings, as well as servicing (including collections) are centrally performed by the applicable group. At December 31, 2008 the loan portfolio of the Commercial Banking group grew 5.1% to $3.6 billion from $3.5 billion at December 31, 2007.
The Middle-Market group delivers Websters broad range of financial services to a diversified group of companies with revenues greater than $10 million, primarily privately held companies located within southern New England. Typical loan facilities include lines of credit for working capital, term loans to finance purchases of equipment and commercial real estate loans for owner-occupied buildings. Unit and relationship managers within the Middle-Market group average over 20 years of experience in their markets. The Middle-Market loan portfolio was $819.1 million at December 31, 2008, a decrease of 5.4%, compared to $865.7 million at December 31, 2007, primarily due to prepayment volume. Total Middle-Market loan originations were $106.2 million in 2008 compared to $126.7 million in 2007.
Commercial Real Estate Lending
The Commercial Real Estate group provides variable rate and fixed rate financing alternatives (primarily in Connecticut, Massachusetts, Rhode Island, New York, New Jersey and Pennsylvania) for the purpose of acquiring, developing, constructing, improving or refinancing commercial real estate where the property is the primary collateral securing the loan, and the income generated from the property is the primary repayment
source. Loans are typically secured by investment quality real estate, including apartments, anchored retail and industrial and office properties. Loan types include construction, construction mini-perm and permanent loans, in amounts that range primarily from $2 million to $15 million and are diversified by property type and geographic location. The lending group consists of a team of professionals with a high level of expertise and experience. The majority of the lenders have more than 15 years of national lending experience in construction and permanent lending with major banks and insurance companies. The commercial real estate portfolio was $1.7 billion at December 31, 2008, an increase of 17.7%, compared to $1.3 billion at December 31, 2007. Total loan originations for the Commercial Real Estate portfolio were $356.6 million in 2008 compared to $434.3 million in 2007.
Webster Business Credit Corporation
Webster Business Credit Corporation (WBCC) is Webster Banks asset-based lending subsidiary with headquarters in New York, New York and eight regional offices. Asset-based loans are generally secured by accounts receivable and inventories of the borrower and, in some cases, also include additional collateral such as property and equipment. The asset-based lending segment of the commercial portfolio was $753.4 million at December 31, 2008, a decrease of 5.3%, compared to $795.3 million at December 31, 2007. Loan originations for the asset-based lending portfolio were $83.5 million in 2008 compared to $285.3 million in 2007.
Deposit and Cash Management Services
Webster offers a wide range of deposit and cash management services for clients ranging from sole proprietors to large corporations. For depository needs, Webster offers products ranging from core checking and money market accounts, to treasury sweep options including repurchase agreements and Euro dollar deposits. For clients with more sophisticated cash management needs, available services include ACH origination and payment services such as lockbox for receipts posting, positive pay for fraud control and controlled disbursement for cash forecasting. All of these services are available through Websters online banking system Webster Web-Link (tm) which uses image technology to provide online information to customers.
Retail Banking is dedicated to serving the needs of over 412,000 consumer households and approximately 60,000 small business customers in southern New England and eastern New York State. Websters Retail Banking segment is focused on growing its customer base through the acquisition of new customer relationships and the retention and expansion of existing customer relationships.
Retail Bankings distribution network provides convenience and easy access to Websters full range of products and services. This multi-channel network is comprised of 181 banking offices and 489 ATMs in Connecticut, Massachusetts, Rhode Island and New York. In the fourth quarter of 2007, Webster announced an ATM branding agreement for Webster branded ATMs in select Walgreens locations. As of December 31, 2008, 147 ATMs were actively operating in select Walgreens across eastern Massachusetts (115), Rhode Island (23) and Connecticut (9). This branding agreement complements Websters branch expansion program and establishes another distribution platform for future growth in Rhode Island and Massachusetts. The distribution network also includes a telephone banking center and a full-range of internet banking services. In addition to transaction and servicing convenience, Retail Bankings distribution network delivers a full range of deposit, lending and investment products and services to both consumer and small business customers within Websters regional footprint.
Retail Bankings primary focus is on core deposit growth, which provides a low-cost funding source for the Bank in addition to an increasing stream of fee revenues. As of December 31, 2008, consumer retail deposits within the branch footprint totaled $8.4 billion. Websters successful execution of its strategy is evidenced by its #2 ranking
in deposit market share in the state of Connecticut. Core deposit growth is driven by a growing base of checking relationships, strong customer retention and successful cross-sell efforts including increasing debit card and on-line banking usage. Revenue growth is achieved by offering a range of deposit products that pay competitive interest rates to meet customer savings and liquidity management needs and deepen customer relationships.
Business & Professional Banking
Retail Banking includes the Business & Professional Banking division (B&P). B&P is focused on the development and delivery of a full array of credit and deposit-related products to small businesses and professional services firms with annual revenue up to $10 million. B&P markets and sells to these customers through a combination of direct sales (Business Bankers) and branch-delivered efforts. B&P is a significant generator of deposits to Webster and the B&P lending effort is focused on those customers with borrowing needs from $10,000 to $2 million. Deposits from B&P customers totaled $1.2 billion as of December 31, 2008. Webster was recognized in 2008, for the sixth consecutive year, by the Connecticut district of the Small Business Administration (SBA) as the states leading bank SBA 504 lender, as well as recognized as the leading Connecticut bank lender based on number of loans, dollars of loans approved, and loans to veterans. The B&P loan portfolio was $927.0 million in 2008 compared to $909.9 million in 2007. Total loan originations for B&P were $238.0 million in 2008 compared to $198.0 million in 2007.
Webster offers the investment and securities-related services, including brokerage and investment advice that it had previously offered through its subsidiary Webster Investment Services, Inc. (WIS), through a strategic partnership with UVEST Financial Services Group, Inc. UVEST, a provider of investment and insurance programs in financial institutions branches, is a broker dealer registered with the Securities and Exchange Commission, a registered investment advisor under federal and applicable state laws, a member of the Financial Industry Regulatory Authority (FINRA), and a member of the Securities Investor Protection Corporation (SIPC). Webster, through its relationship with UVEST, has over 100 dual employees who are registered representatives located throughout its branch network offering customers an array of insurance and investment products including stocks and bonds, mutual funds, annuities and managed accounts. Brokerage and online investing services are available for customers. At December 31, 2008, Webster had $1.6 billion of assets under administration in its strategic partnership with UVEST, compared with $1.9 billion of assets under administration at December 31, 2007. These assets are not included in the Consolidated Financial Statements.
Expansion and Acquisition
An important element of Websters growth strategy is its build and buy strategy for franchise expansion. The Company opened one de novo location, in the third quarter of 2008, in North Kingstown, Rhode Island. In 2009, Webster intends to open three new locations in Rhode Island and Massachusetts and to relocate its downtown Providence office. Webster intends to offset expenses associated with expansion into new locations with consolidation within its existing network.
Websters Consumer Finance division provides a convenient and competitive selection of residential first mortgages, home equity loans and lines and direct installment lending programs through Webster Bank. Webster Banks loan distribution channels consist of the branch network, loan officers and the contact center. Websters Consumer Finance segment offers a broad range of products to meet the needs of its customers in and around its retail branch footprint.
Consumer loan products are underwritten in accordance with accepted industry guidelines including, but not limited to, the evaluation of the credit worthiness of the borrower(s) and collateral. Independent credit reporting agencies, Fair Isaac scoring model (FICO) and the analysis of personal financial information are utilized to determine the credit worthiness of potential borrowers. Also, the Consumer Finance division obtains and evaluates an independent appraisal of collateral value to determine the adequacy of the collateral. Updated FICO scores and collateral values are obtained on at least a quarterly basis.
In late 2007, Webster discontinued its indirect residential construction lending and its indirect home equity lending outside of its primary New England market area referred to as National Wholesale Lending. Webster placed these two portfolios into a liquidating portfolio and disclosed this as a separate category from its continuing portfolio. The liquidating portfolio is managed by a designated credit team. At December 31, 2008 and 2007, these two indirect out-of-footprint loan portfolios totaled $302.4 million and $423.9 million, respectively, and were comprised of $283.7 million and $340.6 million, respectively, of indirect home equity loans and $18.7 million and $83.3 million, respectively, of residential construction loans.
Residential Mortgages and Mortgage Banking
Consumer Finance is dedicated to providing a full complement of residential mortgage loan products that are available to meet the financial needs of Websters customers. Webster offers customers products including conventional conforming and jumbo fixed rate loans, conforming and jumbo adjustable rate loans, Federal Housing Authority (FHA), Veterans Administration (VA) and state agency mortgage loans through the Connecticut Housing Finance Authority (CHFA). Various programs are offered to support the Community Reinvestment Act goals at the state level. Types of properties consist of one-to-four family residences, owner and non-owner occupied, second homes, construction, permanent and improved single family building lots. Webster both retains and sells servicing on originated loans. The determination to sell or retain servicing is dependent on several factors including borrower relationships with Webster.
Total residential mortgage originations for the group were $600 million in 2008 compared to $3.2 billion in 2007. Originations in 2007 included mortgages originated from the discontinued National Wholesale Lending channel. Webster discontinued all national wholesale mortgage banking activities in the fourth quarter of 2007 and, as a result, closed its wholesale lending offices in Seattle, Washington; Phoenix, Arizona; Cheshire, Connecticut; and Chicago, Illinois. In 2007, Webster recorded severance and other costs, primarily for lease terminations and outplacement of $3.5 million (pre-tax) related to the discontinuance of national wholesale mortgage banking activities. Websters remaining mortgage and consumer lending operations in Cheshire, Connecticut focus solely on direct to consumer retail originations.
Webster Bank concentrates on offering a range of products including home equity loans and lines of credit, as well as second mortgages. Although there are no credit card loans in the consumer loan portfolio as of December 31, 2008, Webster offers its customers credit card programs issued by a third party provider. The consumer continuing loan portfolio remained relatively flat year over year with a total continuing portfolio balance of $3.0 billion at December 31, 2008 compared to $2.9 billion at December 31, 2007. The liquidating consumer loan portfolio was $283.7 million and $340.6 million at December 31, 2008 and 2007, respectively. Total consumer loan originations were $0.9 billion in 2008 compared to $1.2 billion in 2007.
Health Savings Accounts
HSA Bank, a division of Webster Bank, is a national leader in providing health savings accounts. HSA Bank focuses entirely on marketing and servicing health savings accounts (HSAs). HSA Bank serves customers in every state, combining specialized knowledge, convenience and service with competitive account maintenance
fees, 24-hour access online (www.hsabank.com) and telephone service. As of December 31, 2008, HSA Bank had approximately 224,000 accounts compared to approximately 187,000 accounts at December 31, 2007. HSA deposit balances totaled $530.7 million at December 31, 2008, an increase of 31.4%, compared to $403.9 million at December 31, 2007.
Websters Government Finance division provides a full range of banking, cash management, investment, and credit-related services to public entities across Websters four-state footprint. The group offers customized products that are delivered locally through single points of contact through offices located in Connecticut and Massachusetts. By acquiring and developing relationships that consider Webster to be their primary bank, Government Finance has become a reliable source of funding for the Bank. This business effort has been enhanced by the significant investment the Bank has made in recent years in both the depth and breadth of cash management services and overall infrastructure. Government Finance divisions deposits were $828.7 million at December 31, 2008, a decrease of 14.2%, compared to $965.7 million December 31, 2007.
Center Capital Corporation (Center Capital), a nationwide equipment financing subsidiary of Webster Bank, transacts business with end users of equipment, either by soliciting this business on a direct basis or through referrals from various equipment manufacturers, dealers and distributors with whom it has relationships. The equipment financing portfolio was $1.0 billion at December 31, 2008, an increase of 5.4%, compared to $970.0 million at December 31, 2007. Total equipment finance originations were $448.2 million in 2008 compared to $441.9 million in 2007.
Center Capital markets its products nationally through a direct sales force of equipment financing professionals who are grouped by customer type or collateral-specific business line. During 2008, financing initiatives encompassed four distinct industry/equipment niches, each operating as a division: Construction and Transportation, Environmental, Manufacturing and General Aviation. Center Capital curtailed General Aviation financing in early 2009.
Within each division, Center Capital seeks to finance equipment that retains value throughout the term of the underlying transaction. Financing terms are for less than financed equipments projected useful life, and minimal, if any, residual value risk is taken. As such, and in exceptional instances where it is forced to repossess its collateral, that equipment may have value equal to or in excess of the defaulted contracts remaining balance. All credit underwriting, contract preparation and closings, as well as servicing (including collections) are performed centrally at Center Capitals headquarters in Farmington, Connecticut.
Webster Financial Advisors (WFA) targets high net worth clients, not-for-profit organizations and business clients with investment management, trust, credit and deposit products and financial planning services. WFA takes a comprehensive view when dealing with clients in order to fully serve their short and long-term financial objectives. Proprietary and non-proprietary investment products are offered through WFA and the J. Bush & Co. division. WFA provides several different levels of financial planning expertise including specialized services through another wholly-owned subsidiary, Fleming, Perry & Cox. At December 31, 2008 there were approximately $1.7 billion of client assets under management and administration, a decrease of 26.1% when compared to December 31, 2007, of which $1.1 billion were under management and administration. The decline in assets under management and administration is directly related to the decline in the market value of these assets. These assets are not included in the Consolidated Financial Statements.
Insurance Premium Financing
Budget Installment Corp. (BIC), an insurance premium financing subsidiary headquartered in Garden City, New York, provides insurance premium financing products covering commercial property and casualty policies. Its dedicated staff of insurance premium financing professionals works directly with local, regional and national insurance agents and brokers to market BICs financing products to customers nationwide. BICs portfolio was $86.1 million at December 31, 2008, a increase of 2.0%, compared to $84.4 million at December 31, 2007. Originations totaled $187.0 million in 2008 compared to $204.8 million in 2007.
Risk Management Functions
Websters risk management framework has been designed to identify, monitor, report and manage risk issues throughout the Company. The Audit and Risk Committees of the Board of Directors, comprised solely of independent directors, oversee all Websters risk-related matters. Websters Enterprise Risk Management Committee, which reports directly to the Risk Committee, is chaired by Websters Chief Risk Officer and is comprised of Websters Executive Management Committee and Senior Risk Officers. Websters Senior Risk Officers oversee matters related to market, credit and operational risk and report directly to the Chief Risk Officer. Websters Corporate Treasurer, Chief Credit Risk Officer and Chief Compliance and Operating Risk Officer are Websters Senior Risk Officers and are responsible for overseeing matters related to the Companys risk environment.
Market risk refers to the risk of loss arising from adverse changes in interest rates, foreign currency exchange rates, commodity prices and other relevant market rates and prices, such as equity prices. The risk of loss can be assessed from the perspective of adverse changes in fair values, cash flows and future earnings. Due to the nature of its operations, Webster is primarily exposed to interest rate risk and, to a lesser extent, liquidity risk. Accordingly, Websters interest rate sensitivity and liquidity are monitored on an ongoing basis by its Asset and Liability Committee (ALCO), whose primary goal is to manage interest rate risk to maximize net income and net economic value over time in changing interest rate environments subject to Board of Director approved risk limits. ALCO is chaired by Websters Treasurer who, as a Senior Risk Officer, regularly reports ALCO findings to the Enterprise Risk Management Committee and the Risk Committee of the Board of Directors.
Webster Bank manages and controls risk in its loan and investment portfolios through adherence to consistent standards. Written credit policies establish underwriting standards, place limits on exposure and set other limits or standards as deemed necessary and prudent. Exceptions to the underwriting policies arise periodically, and to ensure proper identification and disclosure, additional approval requirements and a tracking requirement for all qualified exceptions have been established. In addition, regular reports are made by the Chief Credit Risk Officer to the Enterprise Risk Management Committee and the Risk Committee of the Board of Directors regarding the credit quality of the loan and investment portfolios.
Operational Risk is the risk of loss resulting from inadequate or failed internal processes, people or systems or from external events. The definition includes the risk of loss from failure to comply with laws, ethical
standards and contractual obligations. Websters Chief Compliance and Operating Risk Officer oversees the management and effectiveness of Websters compliance and operational risk management framework which includes the Compliance Program, the Bank Secrecy Act Program, the CRA and Fair Lending Programs, the Privacy Program, the Information Security Program, the Identity Theft Prevention Program, the Bank Security Program and the Enterprise Risk Management Program. The Chief Compliance and Operating Risk Officer is responsible for reporting on the adequacy of all operating risk management components and programs to the Enterprise Risk Management Committee and the Risk Committee of the Board of Directors and/or other committees of the Board as provided for under relevant charters.
Internal Audit provides an independent assessment of the quality of internal controls for all major business units and operations throughout Webster. Results of Internal Audit reviews are reported to management and the Audit Committee. Corrective measures are monitored to ensure risk issues are mitigated or resolved. Internal Audit reports directly to the Audit Committee.
The OneWebster Initiative
The OneWebster initiative, which began in January 2008, is an ongoing, company-wide review of business practices designed to enhance the customer experience and improve the Companys overall operating efficiency. As a result of this initiative, Webster expects to increase pre-tax earnings by an annual rate of $50 million by the middle of 2010 through actions that will save approximately $40 million in costs and achieve an additional $10 million in incremental revenue growth on an annual run-rate basis compared with 2007. Webster plans to achieve the $40 million in cost savings by streamlining processes by instituting other efficiency initiatives. About 240 positions were eliminated, with more than half to be achieved through attrition and elimination of open positions. Webster incurred severance and other related charges of approximately $13.1 million in connection with the implementation of over 1,100 OneWebster ideas generated by employees during 2008. The remaining OneWebster charges are expected to be recorded in the first two quarters of 2009.
The OneWebster Plus Initiative
In December 2008 Webster began a 60 day process focused on an expense management organizational review, OneWebster Plus, which focused on centralizing all like functions across the Company and implemented span of control guidelines. Webster expects to achieve an additional run-rate improvement of $16.5 million by the middle of 2010. Approximately 240 positions will be eliminated, of which approximately 130 will be achieved through attrition and elimination of open positions. Webster expects to begin realizing savings from the OneWebster Plus initiative during the second quarter of 2009 with a total of $14.6 million in total savings to be achieved during 2009.
For more detailed information refer to the OneWebster and OneWebster Plus Summary on the investor relations link at www.wbst.com. Information contained in the OneWebster and OneWebster Plus Summary or located elsewhere on Websters website does not constitute a part of this report and is not incorporated by reference herein.
Websters future results are likely to be potentially impacted by the results of the implementation of the OneWebster and OneWebster Plus initiatives, as discussed herein. Generally, the amounts of the anticipated cost savings and revenue enhancements are based to some extent on estimates and assumptions regarding future business performance and expenses. These estimates and assumptions may or may not prove to be inaccurate in some respects. As more fully described in Item 1A. of this Form 10-K for the year ended December 31, 2008, Webster is subject to various risks inherent in its business. These risks may cause the anticipated cost savings and revenue enhancements from the initiative not to be achieved in their entirety, not to be accomplished within the expected time frame, or to result in implementation charges beyond those currently contemplated or some other unanticipated adverse impact. Furthermore, the implementation of cost savings ideas may have unintended impacts on Websters ability to attract and retain business and customers, while revenue enhancement ideas may not be successful in the marketplace or may result in unintended costs. Assumed attrition required to achieve workforce reductions may not come in the right places or at the right times to meet planned goals.
Additional information on risks and uncertainties and additional factors that could affect the results anticipated in these forward-looking statements or from historical performance can be found in Item 1A. and elsewhere within this Form 10-K for the year ended December 31, 2008 and in other reports filed by Webster with the SEC.
By establishing a prominent presence in Boston, Webster plans to position itself to take a significant step in achieving its vision of being New Englands bank. The Company announced its intention to establish a regional office in Boston by the fourth quarter of 2009 to be located in the former Boston Stock Exchange building.
Also a key part of regional expansion are Webster branded ATMs in 115 Walgreens locations in Massachusetts as well as 23 in Rhode Island and 9 in Connecticut as of December 31, 2008.
The regional expansion into Boston will emphasize the totality of Webster that will include a representation of all of its lines of business, initially targeting primarily government, commercial, small business lending, and individual consumer banking upon the opening of the downtown office there.
The Company opened a new branch location in North Kingstown, Rhode Island in 2008 and announced that it intends to open three additional locations in 2009 (two in Rhode Island and one in Boston, Massachusetts). The Company also intends to optimize its existing franchise by combining certain offices into stronger locations and using efficiency gained to fund investment in de novo branches. The Company will also relocate its downtown Providence, Rhode Island branch in 2009. The Company has also detailed a facilities strategy to consolidate back office operations into one location and a regional hub approach to consolidate facilities in certain cities, which is expected to occur over the next several years.
Acquisition Related Activities
The Companys growth and increased market share have been achieved through both internal growth and acquisitions. The Company continually evaluates acquisition opportunities that complement or advance its mission. Acquisitions typically involve the payment of a premium over book and market values and commonly result in one-time charges against earnings for integration and similar costs. Cost-savings, especially incident to in-market acquisitions, are achieved and revenue growth opportunities are enhanced through acquisitions. No acquisitions were undertaken during 2008, and the Company divested two insurance related subsidiaries. See Note 2 of Notes to Consolidated Financial Statements for additional information.
Websters direct subsidiaries as of December 31, 2008, included Webster Bank and Fleming, Perry & Cox, Inc. Webster also owns all of the outstanding common stock in the following unconsolidated financial vehicles that have issued or may in the future issue trust preferred securities: Webster Capital Trust III, Webster Capital Trust IV, Webster Capital Trust V, Webster Capital Trust VI, Webster Capital Trust VII, Webster Statutory Trust I, Peoples Bancshares Capital Trust II, Eastern Wisconsin Bancshares Capital Trust II and NewMil Statutory Trust I.
Webster Banks direct subsidiaries include Webster Mortgage Investment Corporation, Webster Preferred Capital Corporation, Webster Business Credit Corporation, Budget Installment Corporation and Center Capital Corporation. Webster Bank is the primary source of retail activity within the consolidated group. Webster Bank provides banking services through 181 banking offices, 489 ATMs, telephone banking and the Internet. Residential mortgage origination activity is conducted through Webster Bank. Webster Mortgage Investment Corporation is a passive investment subsidiary whose primary function is to provide servicing on passive investments, such as residential and commercial mortgage loans transferred from Webster Bank. Webster Preferred Capital Corporation is a real estate investment trust, which holds mortgage assets, principally residential mortgage loans transferred from Webster Bank. Various commercial lending products are provided through Webster Bank and its subsidiaries to clients throughout the United States. Webster Business Credit Corporation provides asset-based lending services. Budget Installment Corporation finances insurance premiums for commercial entities, and Center Capital provides equipment financing for end users of equipment. Additionally, Webster Bank has various other subsidiaries that are not significant to the consolidated entity.
At December 31, 2008, Webster had 2,935 full-time equivalent employees including 2,782 full time and 153 part-time and other employees. None of the employees were represented by a collective bargaining group. Webster maintains a comprehensive employee benefit program providing, among other benefits, group medical and dental insurance, life insurance, disability insurance, and an employee 401(k) investment plan. Management considers relations with its employees to be good. See Note 20 of Notes to Consolidated Financial Statements contained elsewhere within this report for additional information on certain benefit programs.
Webster is subject to strong competition from banks and other financial institutions, including savings and loan associations, finance companies, credit unions, consumer finance companies and insurance companies. Certain of these competitors are larger financial institutions with substantially greater resources, lending limits, larger branch systems and a wider array of commercial banking services than Webster. Competition from both bank and non-bank organizations is expected to continue and intensify as evidenced by a number of investment banks forming new bank holding companies.
The banking industry is experiencing rapid changes in technology. In addition to improving customer services, effective use of technology increases efficiency and enables financial institutions to reduce costs. Technological advances are likely to increase competition by enabling more companies to provide cost effective products and services.
Webster faces substantial competition for deposits and loans throughout its market areas. The primary factors in competing for deposits are interest rates, personalized services, the quality and range of financial services, convenience of office locations, automated services and office hours. Competition for deposits comes primarily from other commercial banks, savings institutions, credit unions, mutual funds and other investment alternatives. The primary factors in competing for commercial and business loans are interest rates, loan origination fees, the quality and range of lending services and personalized service. Competition for origination of mortgage loans comes primarily from savings institutions, mortgage banking firms, mortgage brokers, other commercial banks and insurance companies.
Supervision and Regulation
Webster, Webster Bank and certain of its non-banking subsidiaries are subject to extensive regulation under federal and state laws. The regulatory framework is intended primarily for the protection of depositors, federal deposit insurance funds and the banking system as a whole and not for the protection of security holders.
Set forth below is a description of the significant elements of the laws and regulations applicable to Webster and its subsidiaries. The description that follows is qualified in its entirety by reference to the full text of the statutes, regulations and policies that are described. Also, such statutes, regulations and policies are continually under review by Congress and state legislatures and federal and state regulatory agencies. A change in statutes, regulations or regulatory policies applicable to Webster and its subsidiaries could have a material effect on the business of the Company.
Webster is a legal entity separate and distinct from Webster Bank and its other subsidiaries. As a financial holding company and a bank holding company, Webster is regulated under the Bank Holding Company Act of 1956, as amended (BHC Act), and is subject to inspection, examination and supervision by the Board of Governors of the Federal Reserve System (Federal Reserve Board). Webster is also under the jurisdiction of the Securities and Exchange Commission (SEC) and is subject to the disclosure and regulatory requirements of the Securities Act of 1933, as amended, and the Securities Exchange Act of 1934, as amended, as administered by the SEC. Webster is listed on the New York Stock Exchange (NYSE) under the trading symbol WBS, and is subject to the rules of the NYSE for listed companies.
Webster Bank is organized as a national banking association under the National Bank Act. It is subject to regulation and examination by the Office of the Comptroller of the Currency (OCC) and the Federal Deposit Insurance Corporation (FDIC). On July 24, 2006, the OCC issued a Memorandum of Understanding (MOU) to Webster in relation to its bank compliance, Bank Secrecy Act and internal audit programs. Based on the Companys compliance with all terms and the results of the OCCs 2008 MOU examinations, the OCC terminated the MOU effective December 19, 2008.
Many of the Companys non-bank subsidiaries also are subject to regulation by the Federal Reserve Board and other federal and state agencies. Webster Investment Services, Inc. is regulated by the SEC, the Financial Industry Regulatory Authority (FINRA) and state securities regulators. Webster Bank is also authorized to engage as an underwriter of municipal securities and as such is subject to regulation by the Municipal Securities Rulemaking Board, although such activities have been curtailed for 2009. Other non-bank subsidiaries are subject to both federal and state laws and regulations.
Bank Holding Company Activities
In general, the BHC Act limits the business of bank holding companies to banking, managing or controlling banks and other activities that the Federal Reserve Board has determined to be so closely related to banking as to be a proper incident thereto. As a result of the Gramm-Leach-Bliley Financial Modernization Act of 1999 (GLB Act), which amended the BHC Act, bank holding companies that are financial holding companies may engage
in any activity, or acquire and retain the shares of a company engaged in any activity that is either (i) financial in nature or incidental to such financial activity (as determined by the Federal Reserve Board in consultation with the OCC) or (ii) complementary to a financial activity, and that does not pose a substantial risk to the safety and soundness of depository institutions or the financial system generally (as solely determined by the Federal Reserve Board). Activities that are financial in nature include securities underwriting and dealing, insurance underwriting and making merchant banking investments.
If a bank holding company seeks to engage in the broader range of activities that are permitted under the BHC Act for financial holding companies, (i) all of its depository institution subsidiaries must be well capitalized and well managed and (ii) it must file a declaration with the Federal Reserve Board that it elects to be a financial holding company. A depository institution subsidiary is considered to be well capitalized if it satisfies the requirements for this status discussed in the section captioned Capital Adequacy and Prompt Corrective Action, included elsewhere in this item. A depository institution subsidiary is considered well managed if it received a composite rating and management rating of at least satisfactory in its most recent examination. Websters declaration to become a financial holding company was declared effective by the Federal Reserve Board on April 21, 2004.
In order for a financial holding company to commence any new activity permitted by the BHC Act, or to acquire a company engaged in any new activity permitted by the BHC Act, each insured depository institution subsidiary of the financial holding company must have received a rating of at least satisfactory in its most recent examination under the Community Reinvestment Act. See the section captioned Community Reinvestment Act included elsewhere in this item.
The BHC Act generally limits acquisitions by bank holding companies that are not qualified as financial holding companies to commercial banks and companies engaged in activities that the Federal Reserve Board has determined to be so closely related to banking as to be a proper incident thereto. Financial holding companies like Webster are also permitted to acquire companies engaged in activities that are financial in nature and in activities that are incidental and complementary to financial activities without prior Federal Reserve Board approval.
The BHC Act, the Federal Bank Merger Act and other federal and state statutes regulate acquisitions of commercial banks. The BHC Act requires the prior approval of the Federal Reserve Board for the direct or indirect acquisition of 5.0% or more of the voting shares of a commercial bank or its parent holding company. Under the Federal Bank Merger Act, the prior approval of the OCC is required for a national bank to merge with another bank or purchase the assets or assume the deposits of another bank. In reviewing applications seeking approval of merger and acquisition transactions, the bank regulatory authorities will consider, among other things, the competitive effect and public benefits of the transactions, the capital position of the combined organization, the applicants performance record under the Community Reinvestment Act (see the section captioned Community Reinvestment Act included elsewhere in this item) and fair housing laws and the effectiveness of the subject organizations in combating money laundering activities.
The principal source of Websters cash revenues is dividends from Webster Bank. The prior approval of the OCC is required if the total of all dividends declared by a national bank in any calendar year would exceed the sum of the banks net profits for that year and its retained net profits for the preceding two calendar years, less any required transfers to surplus. Federal law also prohibits national banks from paying dividends that would be greater than the banks undivided profits after deducting statutory bad debt in excess of the banks allowance for loan losses. Under the foregoing dividend restrictions, Webster Bank did not have the ability to pay dividends at December 31, 2008.
In addition, Webster and Webster Bank are subject to other regulatory policies and requirements relating to the payment of dividends, including requirements to maintain adequate capital above regulatory minimums. The
appropriate federal regulatory authority is authorized to determine under certain circumstances relating to the financial condition of a bank holding company or a bank that the payment of dividends would be an unsafe or unsound practice and to prohibit payment thereof. The appropriate federal regulatory authorities have indicated that paying dividends that deplete a banks capital base to an inadequate level would be an unsafe and unsound banking practice and that banking organizations should generally pay dividends only out of current operating earnings.
Federal Reserve System
The FRB regulations require depository institutions to maintain non-interest-earning reserves against their transaction accounts (primarily NOW and regular checking accounts). The FRB regulations generally require that reserves be maintained against aggregate transaction accounts as follows: for that portion of transaction accounts aggregating $44.4 million or less (which may be adjusted by the FRB) the reserve requirement is 3%; and for amounts greater than $44.4 million, 10% (which may be adjusted by the FRB between 8% and 14%), against that portion of total transaction accounts in excess of $44.4 million. The first $10.3 million of otherwise reservable balances (which may be adjusted by the FRB) are exempted from the reserve requirements. The Bank is in compliance with these requirements.
Federal Home Loan Bank System
The Bank is a member of the Federal Home Loan Bank System, which consists of 12 regional Federal Home Loan Banks. The Federal Home Loan Bank provides a central credit facility primarily for member institutions. Member institutions are required to acquire and hold shares of capital stock in the Federal Home Loan Bank in an amount at least equal to the sum of 0.35% of the aggregate principal amount of its unpaid residential mortgage loans and similar obligations at the beginning of each year and 4.5% of its advances (borrowings) from the Federal Home Loan Bank. The Bank was in compliance with this requirement with an investment in Federal Home Loan Bank stock at December 31, 2008 of $93.2 million. At December 31, 2008, the Bank had approximately $1.3 billion in Federal Home Loan Bank advances.
On January 28, 2009, the Federal Home Loan Bank of Boston (FHLBB) notified its members via a letter from its president of its focus on preserving capital in response to ongoing market volatility. The letter outlined that actions taken by the FHLBB included an excess stock repurchase moratorium, an increased retained earnings target, and quarterly dividend payout restrictions, and indicated that members will likely face quarters where there is little to no dividend payout. The FHLBB also indicated they could not indicate when dividends might edge closer to historical levels. During 2008 Webster received $3.0 million in dividends from the FHLBB.
Source of Strength Doctrine
Federal Reserve Board policy requires bank holding companies to act as a source of financial and managerial strength to their subsidiary banks. Under this policy, Webster is expected to commit resources to support Webster Bank, including at times when Webster may not be in a financial position to provide such resources. Any capital loans by a bank holding company to any of its subsidiary banks are subordinate in right of payment to deposits and to certain other indebtedness of such subsidiary banks. The BHC Act provides that, in the event of a bank holding companys bankruptcy, any commitment by the bank holding company to a federal bank regulatory agency to maintain the capital of a subsidiary bank will be assumed by the bankruptcy trustee and entitled to priority of payment.
In addition, under the National Bank Act, if the capital stock of Webster Bank is impaired by losses or otherwise, the OCC is authorized to require payment of the deficiency by assessment upon Webster. If the assessment is not paid within three months, the OCC could order a sale of the Webster Bank stock held by Webster to make good the deficiency.
Capital Adequacy and Prompt Corrective Action
Federal law requires, among other things, that federal bank regulatory authorities take prompt corrective action with respect to banks that do not meet minimum capital requirements. For these purposes, the law establishes five capital categories:
As of December 31, 2008, Webster and Webster Bank significantly exceeded the regulatory requirements for the classification as well capitalized. See Note 15 of Notes to Consolidated Financial Statements for additional information regarding Webster and Webster Banks regulatory capital levels.
Transactions with Affiliates
Under federal law, transactions between depository institutions and their affiliates are governed by Sections 23A and 23B of the Federal Reserve Act (FRA). In a holding company context, at a minimum, the parent holding company of a bank and any companies which are controlled by such parent holding company are affiliates of the bank. Generally, sections 23A and 23B are intended to protect insured depository institutions from suffering losses arising from transactions with non-insured affiliates, by limiting the extent to which a bank or its subsidiaries may engage in covered transactions with any one affiliate and with all affiliates of the bank in the aggregate, and by requiring that such transactions be on terms that are consistent with safe and sound banking practices.
Further, Section 22(h) of the FRA restricts loans to directors, executive officers, and principal stockholders (insiders). Under Section 22(h), loans to insiders and their related interests may not exceed, together with all other outstanding loans to such persons and affiliated entities, the institutions total capital and surplus. Loans to insiders above specified amounts must receive the prior approval of the board of directors. Further, under Section 22(h), loans to directors, executive officers and principal stockholders must be made on terms substantially the same as offered in comparable transactions to other persons, except that such insiders may receive preferential loans made under a benefit or compensation program that is widely available to the banks employees and does not give preference to the insider over the employees. Section 22(g) of the FRA places additional limitations on loans to executive officers.
In accordance with the GLB Act, federal banking regulators adopted rules that limit the ability of banks and other financial institutions to disclose non-public information about consumers to nonaffiliated third parties. These limitations require disclosure of privacy policies to consumers and, in some circumstances, allow consumers to prevent disclosure of certain personal information to a nonaffiliated third party. The privacy provisions of the GLB Act affect how consumer information is transmitted through diversified financial companies and conveyed to outside vendors.
The Federal Deposit Insurance Act (FDIA) provides that, in the event of the liquidation or other resolution of an insured depository institution, the claims of depositors of the institution, including the claims of the FDIC as subrogee of insured depositors, and certain claims for administrative expenses of the FDIC as a receiver, will have priority over other general unsecured claims against the institution. If an insured depository institution fails, insured and uninsured depositors, along with the FDIC, will have priority in payment ahead of unsecured, non-deposit creditors, including the parent bank holding company, with respect to any extensions of credit they have made to such insured depository institution.
The Federal Deposit Insurance Reform Act of 2005, which was signed into law on February 8, 2006, gave the FDIC increased flexibility in assessing premiums on banks and savings associations, including Webster Bank, to pay for deposit insurance and in managing its deposit insurance reserves. In 2006, the FDIC adopted rules to implement its new authority to set deposit insurance premiums. Under these regulations, all insured depository institutions pay a base rate, which may be adjusted annually up to 3 basis points by the FDIC, and an additional assessment based on the risk of loss to the Deposit Insurance Fund posed by that institution. For an institution, such as Webster Bank, that has a long-term public debt rating, the risk assessment is based on its debt rating and the components of its supervisory rating. For institutions that do not have a long-term public debt rating, the risk assessment is based on certain measurements of its financial condition and its supervisory ratings.
Assessment rates set by the FDIC effective January 1, 2009, range from 12 to 50 basis points for the first quarter of 2009. The first quarter of 2009 assessment rates reflect a 7 basis point increase across all assessment rates from 2008. On February 27, 2009, the FDIC issued new rules to take effect April 1, 2009 to change the way the FDIC differentiates risk and appropriate assessment rates. Base assessment rates set to take effect on April 1, 2009 will range from 12 to 45 basis points, but giving effect to certain risk adjustments in the rule issued by the FDIC on February 27, 2009, assessments may range from 7 to 77.5 basis points. In addition, the FDIC also issued an interim rule on February 27, 2009 that will impose an emergency special assessment of 20 basis points in addition to its risk-based assessment. This assessment will be imposed on June 30, 2009 and collected on September 30, 2009. The reform legislation provided a credit to insured institutions based on the amount of their insured deposits at year-end 1996 to offset future premium assessments. Webster Bank received a credit of $12.6 million which offset its 2007 and 2008 deposit insurance assessments. As of December 31, 2008, Webster had fully utilized its remaining credit and therefore recorded $3.5 million for deposit premium expense in the fourth quarter of 2008. Due to the utilization of its credit, the overall increase in assessments and the 20 basis point special assessment, Webster will be subject to increased deposit premium expenses in future periods.
In addition, all FDIC insured institutions are required to pay assessments to the FDIC at an annual rate of approximately 1.14 basis points of insured deposits to fund interest payments on bonds issued by the Financing Corporation, an agency of the federal government established to recapitalize the predecessor to the Savings Association Insurance Fund. These assessments will continue until the Financing Corporation bonds mature in 2017 through 2019.
Under the FDIA, the FDIC may terminate the insurance of an institutions deposits upon a finding that the institution has engaged in unsafe or unsound practices, rule, order or condition imposed by the FDIC. Websters
management does not know of any practice, condition or violation that might lead to termination of deposit insurance.
Emergency Economic Stabilization Act of 2008
Among the numerous steps the U.S. government has taken in response to the financial crises affecting the overall banking system and financial markets, was the enactment of the Emergency Economic Stabilization Act of 2008 (EESA) on October 3, 2008. The EESA included a provision for an increase in the amount of deposits insured by the FDIC to $250,000 until December 2009 to strengthen confidence in the banking system. On October 14, 2008, the FDIC announced a new program, the Temporary Liquidity Guarantee Program (TLGP) that provides unlimited deposit insurance on funds in noninterest-bearing transaction deposit accounts not otherwise covered by the existing deposit insurance limit of $250,000. The TLGP also provides that the FDIC will guarantee qualifying senior unsecured debt issued prior to June 2009 by participating banks and certain qualifying holding companies. Participating institutions will be assessed a 10 basis point surcharge on the additional insured deposits and a 50 to 100 basis point assessment on qualifying senior unsecured debt issued under the debt guarantee portion of the program. Webster has elected to participate in both portions of the TLGP and incur the surcharge as a cost of participation. Webster has the capacity to issue up to $310 million in FDIC guaranteed senior unsecured debt under the TLGP.
Troubled Asset Relief Program and Capital Purchase Program
The Troubled Asset Relief Program (TARP) was established as part of the EESA in October 2008. The TARP gave the Treasury authority to deploy up to $700 billion into the financial system with the objective of improving liquidity in the capital markets. On October 24, 2008, the Treasury announced plans to direct $250 billion of the $700 billion authorized into preferred stock investments in banks (the Capital Purchase Program or CPP). The general terms of this preferred stock program are as follows for a participant bank: pay 5% dividends on the Treasurys preferred stock for the first five years and 9% dividends thereafter; cannot increase common dividends for three years while the Treasury is an investor; the Treasury receives warrants entitling the Treasury to buy participating banks common stock equal to 15% of the Treasurys total investment in the participating bank; and participating bank executives must agree to certain compensation restrictions, and restrictions on the amount of executive compensation which is tax deductible and other detailed terms and conditions. In addition to the executive compensation restrictions announced by the Department of Treasury, participants in the CPP are now also subject to the more stringent executive compensation limits enacted as part of the American Recovery and Reinvestment Act of 2009 (ARRA), which was signed into law on February 17, 2009. Among other things, the ARRA more strictly limits the payment of incentive compensation and any severance or golden parachute payments to certain highly compensated employees of CPP participants, expands the scope of employees who are subject to a clawback of bonus and incentive compensation that is based on results that are later found to be materially inaccurate, adds additional corporate governance requirements, and requires the Department of Treasury to perform a retroactive review of compensation to the five highest compensated employees of all CPP participants.
On November 21, 2008, Webster entered into a Purchase Agreement with the Treasury pursuant to which the Company issued and sold to the Treasury (i) 400,000 shares of the Companys Fixed Rate Cumulative Perpetual Preferred Stock, Series B, par value $0.01 per share, having a liquidation preference of $1,000 per share (the Series B Preferred Stock) and (ii) a ten-year warrant to purchase up to 3,282,276 shares of the Companys common stock, par value $0.01 per share (the Common Stock), at an initial exercise price of $18.28 per share (the Warrant), for an aggregate purchase price of $400 million in cash. All of the proceeds from the sale of the Series B Preferred Stock are treated as Tier 1 Capital for regulatory purposes. Additional terms or restrictions to those mentioned above may be imposed by Treasury or Congress at a later date, and these restrictions may apply retroactively. These restrictions may have a material adverse affect on the Companys operations, revenue and financial condition, on the Companys ability to pay dividends, or on Websters ability to attract and retain executive talent.
Sarbanes-Oxley Act of 2002
The stated goals of the Sarbanes-Oxley Act of 2002 (SOX) are to increase corporate responsibility, to provide for enhanced penalties for accounting and auditing improprieties at publicly traded companies and to protect investors by improving the accuracy and reliability of corporate disclosures pursuant to the securities laws.
SOX includes very specific additional disclosure requirements and new corporate governance rules, requires the SEC and securities exchanges to adopt extensive additional disclosure, corporate governance and other related rules and mandates further studies of certain issues by the SEC and the Comptroller General. SOX represents significant federal involvement in matters traditionally left to state regulatory systems, such as the regulation of the accounting profession, and to state corporate law, such as the relationship between a board of directors and management and between a board of directors and its committees.
SOX addresses, among other matters, audit committees; the certification of financial statements and internal controls by the Chief Executive Officer and Chief Financial Officer; the forfeiture of bonuses or other incentive-based compensation and profits from the sale of an issuers securities by directors and senior officers in the twelve month period following initial publication of any financial statements that later require restatement; a prohibition on insider trading during pension plan black out periods; disclosure of off-balance sheet transactions; a prohibition on certain loans to directors and officers; expedited filing requirements for Forms 4; disclosure of a code of ethics and filing of a Form 8-K for significant changes or waivers of such code; real time filing of periodic reports; the formation of a public accounting oversight board; auditor independence; and provides for various increased criminal penalties for violations of securities laws. The SEC has enacted rules to implement various provisions of SOX.
Community Reinvestment Act and Fair Lending Laws
Webster has a responsibility under the Community Reinvestment Act of 1977 (CRA) to help meet the credit needs of its communities, including low-and moderate-income neighborhoods. The CRA does not establish specific lending requirements or programs for financial institutions nor does it limit an institutions discretion to develop the types of products and services that it believes are best suited to its particular community, consistent with the CRA. In connection with its examination, the FDIC assesses Websters record of compliance with the CRA. In addition, the Equal Credit Opportunity Act and the Fair Housing Act prohibit discrimination in lending practices on the basis of characteristics specified in those statutes. Websters failure to comply with the provisions of the CRA could, at a minimum, result in regulatory restrictions on its activities. Websters failure to comply with the Equal Credit Opportunity Act and the Fair Housing Act could result in enforcement actions against it by the FDIC as well as other federal regulatory agencies and the Department of Justice. The Banks latest FDIC CRA rating was satisfactory.
USA PATRIOT Act
Under Title III of the USA PATRIOT Act, all financial institutions are required to take certain measures to identify their customers, prevent money laundering, monitor customer transactions and report suspicious activity to U.S. law enforcement agencies. Financial institutions also are required to respond to requests for information from federal banking regulatory authorities and law enforcement agencies. Information sharing among financial institutions for the above purposes is encouraged by an exemption granted to complying financial institutions from the privacy provisions of GLBA and other privacy laws. Financial institutions that hold correspondent accounts for foreign banks or provide private banking services to foreign individuals are required to take measures to avoid dealing with certain foreign individuals or entities, including foreign banks with profiles that raise money laundering concerns, and are prohibited from dealing with foreign shell banks and persons from jurisdictions of particular concern. The primary federal banking regulators and the Secretary of the Treasury have adopted regulations to implement several of these provisions. All financial institutions also are required to establish internal anti-money laundering programs. The effectiveness of a financial institution in combating money laundering activities is a factor to be considered in any application submitted by the financial institution
under the Bank Merger Act or the BHCA. Webster has in place a Bank Secrecy Act and USA PATRIOT Act compliance program, and engages in very few transactions of any kind with foreign financial institutions or foreign persons.
Office of Foreign Assets Control Regulation
The United States has imposed economic sanctions that affect transactions with designated foreign countries, nationals and others. These are typically known as the OFAC rules based on their administration by the U.S. Treasury Department Office of Foreign Assets Control (OFAC). The OFAC-administered sanctions targeting countries take many different forms. Generally, however, they contain one or more of the following elements: i) restrictions on trade with or investment in a sanctioned country, including prohibitions against direct or indirect imports from and exports to a sanctioned country and prohibitions on U.S. persons engaging in financial transactions relating to making investments in, or providing investment-related advice or assistance to, a sanctioned country; and ii) a blocking of assets in which the government or specially designated nationals of the sanctioned country have an interest, by prohibiting transfers of property subject to U.S. jurisdiction (including property in the possession or control of U.S. persons). Blocked assets (e.g., property and bank deposits) cannot be paid out, withdrawn, set off or transferred in any manner without a license from OFAC. Failure to comply with these sanctions could have serious legal and reputational consequences.
From time to time, various legislative and regulatory initiatives are introduced in Congress and state legislatures, as well as by regulatory agencies. Such initiatives may include proposals to expand or contract the powers of bank holding companies and depository institutions or proposals to substantially change the financial institution regulatory system. Such legislation could change banking statutes and the operating environment of the Company in substantial and unpredictable ways. If enacted, such legislation could increase or decrease the cost of doing business, limit or expand permissible activities or affect the competitive balance among banks, savings associations, credit unions, and other financial institutions. The Company cannot predict whether any such legislation will be enacted, and, if enacted, the effect that it, or any implementing regulations, would have on the financial condition or results of operations of the Company. A change in statutes, regulations or regulatory policies applicable to Webster or any of its subsidiaries could have a material effect on the business of the Company.
Webster makes available free of charge on its websites (www.wbst.com or www.websteronline.com) its Annual Report on Form 10-K, its quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) of the Securities Exchange Act of 1934 as soon as practicable after it electronically files such material with, or furnishes it to, the Securities and Exchange Commission. Information on Websters website is not incorporated by reference into this report.
The information required by the SECs Securities Act Industry Guide 3 Statistical Disclosure by Bank Holding Companies is located on the pages noted below.
Difficult market conditions have adversely affected the industry in which Webster operates.
Dramatic declines in the housing market over the past year, with falling home prices and increasing foreclosures, unemployment and underemployment, have negatively impacted the credit performance of mortgage loans and resulted in significant write-downs of asset values by financial institutions, including government-sponsored entities as well as major commercial and investment banks. These write-downs, initially of mortgage-backed securities but spreading to credit default swaps and other derivative and cash securities, in turn, have caused many financial institutions to seek additional capital, to merge with larger and stronger institutions and, in some cases, to fail. Reflecting concern about the stability of the financial markets generally and the strength of counterparties, many lenders and institutional investors have reduced or ceased providing funding to borrowers, including to other financial institutions. This market turmoil and tightening of credit have led to an increased level of commercial and consumer delinquencies, lack of consumer confidence, increased market volatility and widespread reduction of business activity generally. The resulting economic pressure on consumers and lack of confidence in the financial markets has adversely affected Websters business, financial condition and results of operations. Webster does not expect that the difficult conditions in the financial markets are likely to improve in the near future. A worsening of these conditions would likely exacerbate the adverse effects of these difficult market conditions on Webster and others in the financial institution industry. In particular, Webster may face the following risks in connection with these events:
Current levels of market volatility are unprecedented.
The capital and credit markets have been experiencing volatility and disruption for more than 12 months. In recent months, the volatility and disruption has reached unprecedented levels. In some cases, the markets have produced downward pressure on stock prices and credit availability for certain issuers without regard to those issuers underlying financial strength. If current levels of market disruption and volatility continue or worsen, there can be no assurance that Webster will not experience an adverse effect, which may be material, on its ability to access capital and on its business, financial condition and results of operations.
Webster is subject to extensive government regulation and supervision.
Webster, primarily through Webster Bank and certain non-bank subsidiaries, is subject to extensive federal and state regulation and supervision. Banking regulations are primarily intended to protect depositors funds, federal deposit insurance funds and the banking system as a whole, not shareholders. These regulations affect Websters lending practices, capital structure, investment practices, dividend policy and growth, among other things. Congress and federal regulatory agencies continually review banking laws, regulations and policies for possible changes. Changes to statutes, regulations or regulatory policies, including changes in interpretation or implementation of statutes, regulations or policies, could affect Webster in substantial and unpredictable ways. Such changes could subject Webster to additional costs, limit the types of financial services and products Webster may offer and/or increase the ability of non-banks to offer competing financial services and products, among other things. Failure to comply with laws, regulations or policies could result in sanctions by regulatory
agencies, civil money penalties and/or reputation damage, which could have a material adverse effect on Websters business, financial condition and results of operations. While Webster has policies and procedures designed to prevent any such violations, there can be no assurance that such violations will not occur. See the section captioned Supervision and Regulation in Item 1 of this report for further information.
There can be no assurance that recent government action will help stabilize the U.S. financial system and will not have unintended adverse consequences.
In recent periods, the U.S. government and various federal agencies and bank regulators have taken steps to stabilize and stimulate the financial services industry. Changes also have been made in tax policy for financial institutions. The Emergency Economic Stabilization Act of 2008 (the EESA), was an initial legislative response to the financial crises affecting the banking system and financial markets and going concern threats to financial institutions. Pursuant to the EESA, the U.S. Treasury will have the authority to, among other things, purchase up to $700 billion of mortgages, mortgage-backed securities and certain other financial instruments from financial institutions for the purpose of stabilizing and providing liquidity to the U.S. financial markets. As an initial program, the U.S. Treasury is exercising its authority to purchase an aggregate of $250 billion of capital instruments from financial entities throughout the United States. There can be no assurance, however, as to the actual impact that the EESA and other measures will have on the financial markets, including the extreme levels of volatility and limited credit availability currently being experienced. The failure of the EESA and other measures to help stabilize the financial markets and a continuation or worsening of current financial market conditions could materially and adversely affect Websters business, financial condition, results of operations, access to credit or the trading price of its common stock.
Websters participation in the U.S. Treasurys Capital Purchase Program restricts the Companys ability to increase dividends on its common stock, undertake stock repurchase programs and compensate key executives.
In November 2008, the U.S. Treasury invested in $400 million in preferred stock of the Company pursuant to the Capital Purchase Program. The terms of the Capital Purchase Program require Webster to pay preferred cumulative dividends to the Treasury and restrict Websters ability to increase dividends on its common stock, redeem the Treasurys investment, undertake stock repurchase programs and pay executive compensation. More stringent restrictions primarily on executive compensation were imposed by Congress in February 2009 as part of ARRA, and these restrictions apply retroactively. Congress may impose additional restrictions in the future which may also apply retroactively. These restrictions may have a material adverse affect on Websters operations, revenue and financial condition, on the ability to pay dividends, or on Websters ability to attract and retain executive talent.
Websters stock price can be volatile.
Websters stock price can fluctuate widely in response to a variety of factors including:
General market fluctuations, industry factors and general economic and political conditions and events, such as economic slowdowns or recessions, interest rate changes, credit loss trends or currency fluctuations could also cause Websters stock price to decrease regardless of the Companys operating results.
The Company operates in a highly competitive industry and market area.
Webster faces substantial competition in all areas of its operations from a variety of different competitors, many of which are larger and may have more financial resources. Such competitors primarily include national, regional, and community banks within the various markets in which Webster operates. Webster also faces competition from many other types of financial institutions, including, without limitation, savings and loans, credit unions, finance companies, brokerage firms, insurance companies, factoring companies and other financial intermediaries. The financial services industry could become even more competitive as a result of legislative, regulatory and technological changes and continued consolidation. Banks, securities firms and insurance companies can merge under the umbrella of a financial holding company, which can offer virtually any type of financial service, including banking, securities, underwriting, insurance (both agency and underwriting) and merchant banking. Also, technology has lowered barriers to entry and made it possible for non-banks to offer products and services traditionally provided by banks, such as automatic transfer and automatic payment systems. Many competitors have fewer regulatory constraints and may have lower cost structures. Additionally, due to their size, many competitors may be able to achieve economies of scale and, as a result, may offer a broader range of products and services than Webster, as well as better pricing for those products and services.
The ability of Webster to compete successfully depends on a number of factors, including, among other things:
Failure to perform in any of these areas could significantly weaken the Companys competitive position, which could adversely affect the growth and profitability, which, in turn, could have a material adverse effect on the Companys financial condition and results of operations.
Webster may not be able to attract and retain skilled people.
Websters success depends, in large part, on its ability to attract and retain key people. Competition for the best people in most activities engaged in by Webster can be intense and the Company may not be able to hire people or to retain them. Currently, Webster does not have employment agreements with any of its executive officers. The unexpected loss of services of one or more of Websters key personnel could have a material adverse impact on the business because of their skills, knowledge of the market, years of industry experience and the difficulty of promptly finding qualified replacement personnel.
Websters business strategy could have an impact on earnings and results of operations.
Webster is focused on a build and buy strategy for growth. From time to time in the ordinary course of business, the Company engages in preliminary discussions with potential acquisition targets. As of the date of this filing, there are no binding or definitive agreements, plans, arrangements, or understandings for such acquisitions by the Company. Although its business strategy includes both internal expansion and acquisitions, there can be no assurance that, in the future, it will successfully identify suitable acquisition candidates, complete acquisitions successfully, integrate acquired operations into existing operations or expand into new markets. Further, there can be no assurance that acquisitions will not have an adverse effect upon the Companys operating results while the operations of the acquired businesses are being integrated into its operations. In addition, once integrated, acquired operations may not achieve levels of profitability comparable to those achieved by the Companys existing operations, or otherwise perform as expected. Further, transaction-related expenses may adversely affect the Companys earnings. These adverse effects on the Companys earnings and results of operations may have a negative impact on the value of its stock.
If the goodwill that the Company has recorded in connection with its acquisitions becomes further impaired, it could have a negative impact on the Companys profitability.
Applicable accounting standards require that the purchase method of accounting be used for all business combinations. Under purchase accounting, if the purchase price of an acquired company exceeds the fair value of the acquired companys net assets, the excess is carried on the acquirers balance sheet as goodwill. At December 31, 2008, the Company had approximately $529.9 million of goodwill on its balance sheet related to its retail banking reporting unit and HSA Bank reporting unit, after recording $198.4 million in impairment charges in 2008 related to its Commercial, Consumer Finance and other reporting units. Companies must evaluate goodwill for impairment at least annually. If the Companys stock price continues trading below its book value and tangible book value, the Company would continue performing quarterly evaluations of the carrying value of goodwill. Write-downs of the amount of any impairment, if necessary, are to be charged to the results of operations in the period in which the impairment occurs. There can be no assurance that future evaluations of goodwill will not result in findings of impairment and related write-downs, which may have a material adverse effect on Websters financial conditions and results of operations.
Webster continually encounters technological change.
The financial services industry is continually undergoing rapid technological change with frequent introductions of new technology-driven products and services. The effective use of technology can increase efficiency and enable financial institutions to better serve customers and to reduce costs. However, some new technologies needed to compete effectively result in incremental operating costs. Websters future success depends, in part, upon its ability to address the needs of its customers by using technology to provide products and services that will satisfy customer demands, as well as to create additional efficiencies in operations. Many of Websters competitors, because of their larger size and available capital, have substantially greater resources to invest in technological improvements. Webster may not be able to effectively implement new technology-driven products and services or be successful in marketing these products and services to its customers. Failure to successfully keep pace with technological change affecting the financial services industry could have a material adverse impact on Websters business and, in turn, its financial condition and results of operations.
Websters controls and procedures may fail or be circumvented.
Management regularly reviews and updates Websters internal controls, disclosure controls and procedures, and corporate governance policies and procedures. Any system of controls, however well designed and operated, is based in part on certain assumptions and can provide only reasonable, not absolute, assurances that the objectives of the system are met. Any failure or circumvention of the controls and procedures or failure to comply with regulations related to controls and procedures could have a material adverse effect on Websters business, results of operations and financial condition.
New lines of business or new products and services may subject Webster to additional risks.
From time to time, Webster may implement new lines of business, offer new products and services within existing line of business or shift focus on its asset mix. There are substantial risks and uncertainties associated with these efforts, particularly in instances where the markets are not fully developed. In developing and marketing new lines of business and/or new products and services and/or shifting focus of asset mix, Webster may invest significant time and resources. Initial timetables for the introduction and development of new lines of business and/or new products or services may not be achieved and price and profitability targets may not prove feasible. External factors, such as compliance with regulations, competitive alternatives, and shifting market preferences, may also impact the successful implementation of a new line of business or a new product or service. Furthermore, any new line of business and/or new product or service could have a significant impact on the effectiveness of Websters system of internal controls. Failure to successfully manage these risks in the development and implementation of new lines of business or new products or services could have a material adverse effect on Websters business, results of operations and financial condition.
Customer information may be obtained and used fraudulently.
Risk of theft of customer information resulting from security breaches by third parties exposes the Company to reputation risk and potential monetary loss. The Company has exposure to fraudulent use of its customers personal information resulting from its general business operations and through customer use of financial instruments such as debit cards. While Webster has policies and procedures designed to prevent or limit the effect of this risk, there can be no assurance that any such security breaches will not occur or, if they do occur, that they will be adequately addressed. The occurrence of any security breaches could damage Websters reputation, result in a loss of customer business, subject Webster to additional regulatory scrutiny, or expose Webster to civil litigation and possible financial liability, any of which could have a material adverse effect on Websters financial condition and results of operations.
Changes in interest rates and spreads could have an impact on earnings and results of operations which could have a negative impact on the value of Websters stock.
Websters consolidated earnings and financial condition are dependent to a large degree upon net interest income, which is the difference between interest earned from loans and investments and interest paid on deposits and borrowings. The narrowing of interest rate spreads could adversely affect Websters earnings and financial condition. The Company cannot predict with certainty or control changes in interest rates. Regional and local economic conditions and the policies of regulatory authorities, including monetary policies of the Federal Reserve Board, affect interest income and interest expense. While the Company has ongoing policies and procedures designed to manage the risks associated with changes in market interest rates, changes in interest rates still may have an adverse effect on Websters profitability. For example, high interest rates could also affect the amount of loans that Webster can originate, because higher rates could cause customers to apply for fewer mortgages, or cause depositors to shift funds from accounts that have a comparatively lower cost, to accounts with a higher cost or experience customer attrition due to competitor pricing. If the cost of interest-bearing deposits increases at a rate greater than the yields on interest-earning assets increase, net interest income will be negatively affected. Changes in the asset and liability mix may also affect net interest income. Similarly, lower interest rates cause higher yielding assets to prepay and floating or adjustable rate assets to reset to lower rates. If the Company is not able to reduce its funding costs sufficiently, due to either competitive factors or the maturity schedule of existing liabilities, then the Companys net interest margin will decline.
If all or a significant portion of the unrealized losses in Websters portfolio of investment securities were determined to be other-than-temporarily impaired, Webster would recognize a material charge to its earnings and its capital ratios would be adversely impacted.
As of December 31, 2008, there were $71.5 million of after-tax net unrealized losses associated with Websters portfolio of investment securities available for sale. Generally, the fair value of such securities is based upon
market values supplied by third-party sources. Market values for the securities in Websters portfolio declined significantly during 2008 as liquidity and pricing, generally in capital markets, was disrupted. When the fair value of a security declines, management must assess whether that decline is other-than-temporary. When management reviews whether a decline in fair value is other-than-temporary, it considers numerous factors, many of which involve significant judgment. As 2008 progressed, rating agencies imposed an increasing number of downgrades and credit watches on the securities in Websters investment portfolio, which contributed to the decline in market values. More generally, market conditions continue to be volatile, and no assurance can be provided that the amount of the unrealized losses will not increase.
To the extent that any portion of the unrealized losses in Websters portfolio of investment securities is determined to be other-than-temporarily impaired, Webster will recognize a charge to its earnings in the quarter during which such determination is made and its capital ratios will be adversely impacted. In 2008, Webster recognized $154.1 million in after-tax charges to earnings as a result of other-than-temporary impairment determinations. If any such charge is deemed significant, a rating agency might downgrade Websters credit rating or put them on a credit watch. A downgrade or a significant reduction in Websters capital ratios might adversely impact its ability to access the capital markets or might increase its cost of capital. Even if Webster does not determine that the unrealized losses associated with the investment portfolio require an impairment charge, increases in such unrealized losses adversely impact the tangible common equity ratio, which may adversely impact credit rating agency and investor sentiment. Such negative perception also may adversely impact Websters ability to access the capital markets or might increase Websters cost of capital.
Websters allowance for credit losses may be insufficient.
Websters business is subject to periodic fluctuations based on national and local economic conditions. These fluctuations are not predictable, cannot be controlled and may have a material adverse impact on the Companys operations and financial condition. For example, recent declines in housing activity including declines in building permits, housing starts and home prices may make it more difficult for our borrowers to sell their homes or refinance their debt. Sales may also slow, which could strain the resources of real estate developers and builders. The current economic uncertainty will more than likely affect employment levels and could impact the ability of Websters borrowers to service their debt. Bank regulatory agencies also periodically review Websters allowance for credit losses and may require an increase in the provision for credit losses or the recognition of further loan charge-offs, based on judgments different than those of management. In addition, if charge-offs in future periods exceed the allowance for credit losses, Webster will need additional provisions to increase the allowance for credit losses. Any increases in the allowance for credit losses will result in a decrease in net income and, possibly, capital, and may have a material adverse effect on Websters financial condition and results of operations. Webster may suffer higher loan losses as a result of these factors and the resulting impact on its borrowers.
Webster may not pay dividends if it is not able to receive dividends from its subsidiary, Webster Bank.
Cash dividends from Webster Bank and its existing liquid assets are the principal sources of funds for paying cash dividends on Websters common stock. Unless the Company receives dividends from Webster Bank or chooses to use its liquid assets, the Company may not be able to pay dividends. Webster Banks ability to pay the Company dividends is subject to its ability to earn net income and to meet certain regulatory requirements. At December 31, 2008, Webster had cash flow at the holding company level sufficient to pay five years of dividends on its preferred shares issued pursuant to the CPP, convertible preferred shares and common shares.
Webster has no unresolved comments from the SEC staff.
At December 31, 2008, Webster Bank had 181 banking offices located in Connecticut, Massachusetts, Rhode Island and New York as follows:
Lease expiration dates range from 1 to 79 years with renewal options of 2 to 35 years. Additionally, Webster Financial Advisors, headquartered in Stamford, Connecticut, has offices in Hartford, New Haven, Waterbury and Providence, Rhode Island, and HSA Bank is headquartered in Sheboygan, Wisconsin.
Subsidiaries maintain the following offices at December 31, 2008: Webster Investment Services, Inc. is headquartered in Kensington, Connecticut with sales offices located throughout Websters branch network. Center Capital is headquartered in Farmington, Connecticut and has offices in Blue Bell and Cranberry Township, Pennsylvania; and Schaumburg, Illinois. WBCC is headquartered in New York, New York with offices in Atlanta, Georgia; South Easton, Massachusetts; Chicago, Illinois; Cleveland, Ohio; Charlotte, North Carolina; Memphis, Tennessee; Portland, Maine; and Hartford, Connecticut. BIC is headquartered in Garden City, New York.
The total net book value of properties and equipment owned at December 31, 2008 was $185.9 million. See Note 8 of Notes to Consolidated Financial Statements elsewhere in this report for additional information.
There are no material pending legal proceedings, other than ordinary routine litigation incident to the registrants business, to which Webster is a party or of which any of its property is subject.
No matters were submitted to a vote of Webster security holders during the fourth quarter of 2008.
The common shares of Webster trade on the New York Stock Exchange under the symbol WBS.
The following table sets forth for each quarter of 2008 and 2007 the intra-day high and low sales prices per share of common stock as reported by the NYSE and the cash dividend declared per share. On January 30, 2009, the closing market price of Webster common stock was $4.18. On January 23, 2009, Websters Board of Directors announced a decrease in its quarterly dividend to $.01 per share, in order to preserve capital during the current extended period of unprecedented economic uncertainty.
Common Stock (per share)
Webster had 9,246 holders of record of common stock and 52,870,621 shares outstanding on January 31, 2009. The number of shareholders of record was determined by BNY Mellon Shareowner Services, the Companys transfer agent and registrar.
A primary source of liquidity for Webster Financial Corporation is dividend payments from Webster Bank (the Bank). The Banks ability to make dividend payments to Webster is governed by OCC regulations. Without specific OCC approval, and subject to the Bank meeting applicable regulatory capital requirements before and after payment of dividends, the total of all dividends declared by the Bank is limited to net profits for the current year to date as of the declaration date plus net retained profits from the preceding two years less dividends declared in such years. In addition, the OCC has the discretion to prohibit any otherwise permitted capital distribution on general safety and soundness grounds.
In connection with the U.S. Treasurys investment in the Company under the Capital Purchase Program, for a period of three years, the consent of the U.S. Treasury will be required for any increase in the Companys common stock dividend, other than in connection with benefit plans consistent with past practice. The payment of dividends is subject to various additional restrictions, none of which is expected to limit any dividend policy that the Board of Directors may in the future decide to adopt. Payment of dividends to Webster from Webster Bank is subject to certain regulatory and other restrictions. Under OCC regulations, Webster Bank may pay dividends to Webster without prior regulatory approval so long as it meets its applicable regulatory capital requirements before and after payment of such dividends and its total dividends declared do not exceed its net
profits for the current year to the date of declaration plus net retained profits from the preceding two years less dividends declared in such years. At December 31, 2008, Webster Bank was in compliance with all applicable minimum capital requirements and did not have the ability to pay dividends to Webster.
If the capital of Webster is diminished by depreciation in the value of its property or by losses, or otherwise, to an amount less than the aggregate amount of the capital represented by the issued and outstanding stock of all classes having a preference upon the distribution of assets, no dividends may be paid out of net profits until the deficiency in the amount of capital represented by the issued and outstanding stock of all classes having a preference upon the distribution of assets has been repaired. See Supervision and Regulation section contained elsewhere within this report for additional information on dividends.
Recent Sale of Unregistered Securities; Use of Proceeds from Registered Securities
Except as disclosed in Websters Current Reports on Form 8-K, no unregistered securities were sold by Webster during the year ended December 31, 2008. Registered securities were exchanged either as part of an employee and director stock compensation plan or as consideration for acquired entities.
Purchases of Equity Securities by the Issuer and Affiliated Purchasers
The following table provides information with respect to any purchase of shares of Webster common stock made by or on behalf of Webster or any affiliated purchaser for the quarter ended December 31, 2008. Management may not engage in share repurchases as part of a publicly announced plan or program pursuant to its participation in the Capital Purchase Program. See page 13 Troubled Asset Relief Program and Capital Purchase Program.
Stock-Based Compensation Plans
Information regarding stock-based compensation awards outstanding and available for future grants as of December 31, 2008, represents stock-based compensation plans approved by shareholders and is presented in the table below. There are no plans that have not been approved by shareholders. Additional information is presented in Note 21, Stock-Based Compensation Plans, in the Notes to Consolidated Financial Statements included in Item 8, Financial Statements and Supplementary Data, within this report.
The performance graph compares Websters cumulative shareholder return on its common stock over the last five fiscal years to the cumulative total return of the Standard & Poors 500 Index (S&P 500 Index) and the SNL All Bank and Thrift Index. Total shareholder return is measured by dividing total dividends (assuming dividend reinvestment) for the measurement period plus share price change for a period by the share price at the beginning of the measurement period. Websters cumulative shareholder return over a five-year period is based on an initial investment of $100 on December 31, 2003.
Comparison of Five Year Cumulative Total Return Among
Webster, S&P 500 Index and SNL All Bank & Thrift Index
Sources: SNL Financial LC, Bloomberg L.P.
The following discussion should be read in conjunction with the Consolidated Financial Statements of Webster Financial Corporation and the Notes thereto included elsewhere in this report (collectively, the Financial Statements).
Critical Accounting Policies and Estimates
Critical accounting estimates are necessary in the application of certain accounting policies and procedures, and are particularly susceptible to significant change. Critical accounting policies are defined as those that are reflective of significant judgments and uncertainties, and could potentially result in materially different results under different assumptions and conditions. Management believes that the most critical accounting policies, which involve the most complex or subjective decisions or assessments, are as follows:
Allowance for Credit Losses
Arriving at an appropriate level of allowance for credit losses involves a high degree of judgment. The allowance for credit losses, which comprises the allowance for loan losses and the reserve for unfunded credit commitments, provides for probable losses based upon evaluations of known and inherent risks in the loan portfolio and in unfunded credit commitments. To assess the adequacy of the allowance, management considers historical information as well as the prevailing business environment, as it is affected by changing economic conditions and various external factors, which may impact the portfolio in ways currently unforeseen. The allowance is increased by provisions for credit losses and by recoveries of loans previously charged-off, and reduced by loans charged-off. For a full discussion of the methodology of assessing the adequacy of the allowance for credit losses, see the Asset Quality section elsewhere within Managements Discussion and Analysis of Financial Condition and Results of Operations.
Valuation of Investment Securities
Management evaluates securities for other-than-temporary impairment on at least a quarterly basis, and more frequently when economic or market concerns warrant such evaluation. Consideration is given to (1) length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, and (3) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. The consideration of the above factors are subjective and involve estimates and assumptions about matters that are inherently uncertain. Should actual factors and conditions differ materially from those used by management, the actual realization of gains or losses on investment securities could differ materially from the amounts recorded in the financial statements.
Valuation of Goodwill/Other Intangible Assets
Webster, in part, has increased its market share through acquisitions accounted for under the purchase method, which requires that assets acquired and liabilities assumed be recorded at their fair values estimated by means of internal or other valuation techniques. These valuation estimates affect the measurement of goodwill and other intangible assets recorded in the acquisition. Goodwill is subject to ongoing periodic impairment tests and is evaluated using various fair value techniques including multiples of revenue, discounted cash flows, price/equity and price/earnings ratios.
Certain aspects of income tax accounting require significant management judgment, including determining the expected realization of deferred tax assets and evaluating uncertain tax positions. Such judgments are subjective
and involve estimates and assumptions about matters that are inherently uncertain. Should actual factors and conditions differ materially from those used by management, the actual realization of the net deferred tax assets could differ materially from the amounts recorded in the financial statements.
Deferred tax assets generally represent items that can be used as a tax deduction or credit in future income tax returns, for which a financial statement tax benefit has already been recognized. The realization of the net deferred tax asset generally depends upon future levels of taxable income and the existence of prior years taxable income to which carry back refund claims could be made. Valuation allowances are established against those deferred tax assets determined not likely to be realized.
Deferred tax liabilities generally represent items that will require a future tax payment, for which tax expense has been recognized in the Companys financial statements and a payment has been deferred, or a deduction taken on the Companys tax return but not yet recognized as an expense in the financial statements. Deferred tax liabilities are also recognized for certain non-cash items such as certain acquired intangible assets subject to amortization which results in future financial statement expenses that are not deductible for tax purposes.
For more information about income taxes, see Note 9 of Notes to Consolidated Financial Statements included elsewhere within this report.
Pension and Other Postretirement Benefits
The determination of the obligation and expense for pension and other postretirement benefits is dependent upon certain assumptions used in calculating such amounts. Key assumptions used in the actuarial valuations include the discount rate, expected long-term rate of return on plan assets and rates of increase in compensation and health care costs. Actual results could differ from the assumptions and market driven rates may fluctuate. Significant differences in actual experience or significant changes in the assumptions may materially affect the future pension and other postretirement obligations and expense. See Note 20 of Notes to Consolidated Financial Statements for further information.
Results of Operations
Websters net loss for the year ended December 31, 2008 was $321.8 million or $6.42 per diluted common share, compared to net income of $96.8 million or $1.76 per diluted common share for the year ended December 31, 2007. Loss from continuing operations was $318.8 million or $6.36 per diluted common share for the year ended December 31, 2008, compared to income from continuing operations of $110.7 million or $2.01 per diluted common share in 2007, a decrease of 388.0%.
The year over year decrease in results from continuing operations for 2008 as compared to 2007 is primarily attributable to the increase in the loss on write-down of investments to fair value of $215.7 million, the $198.4 million impairment of goodwill, a $118.6 million increase in the provision for credit losses and a $10.0 million increase in net losses on sales of investment securities offset by a $113.9 million reduction in the income tax expense. Excluding the net impact of these items, pre-tax income from continuing operations would have been $158.0 million and pre-tax income from continuing operations per common share would have been $3.04.
The year over year decrease in results from continuing operations for 2007 as compared to 2006 include an increase in provision for credit losses of $56.8 million, severance and other charges of $15.6 million, a net charge of $6.8 million related to the redemption of debt and a $3.6 million loss on the write-down of investments to fair value. Excluding the net impact of these items, pre-tax income from continuing operations would have been $158.9 million and pre-tax income from continuing operations per common share would have been $2.89.
Net interest income of $505.8 million for the year ended December 31, 2008 decreased 0.47% when compared to 2007 due to a decrease in the net interest margin of 12 basis points when compared to the prior year. The decline year over year was primarily due to reductions in the Federal Reserve rates as well as an increase in non-performing assets and lower yields on assets tied to prime and LIBOR. Average interest bearing liabilities increased $0.5 billion, or 3.23%, with increases in average borrowings of $0.9 billion partially offset by decreases in average deposits of $0.4 billion. Average earning assets increased $0.5 billion, or 3.23% when compared to 2007, which includes the December 2008 receipt and subsequent investment of $400 million pursuant to the Capital Purchase Program under TARP.
Non-interest income of $(28.1) million decreased by $230.4 million, or 113.9%, in 2008 compared to 2007. The decrease in non-interest income was primarily due to the $215.7 million increase in loss on write-down of investments to fair value, the $10.0 million increase in net losses on sales of investment securities and the $8.1 million decrease in income from mortgage banking activities due to the decision to exit the National Wholesale origination channel, partially offset by a $5.5 million increase in deposit service fees. The decrease in non-interest income was also impacted by a $2.8 million decline in loan fees and income from wealth and investment services in 2008 when compared to the results for 2007.
Non-interest expenses of $676.0 million increased $192.1 million, or 39.7%, in 2008 compared to 2007. The decrease is primarily due to the $198.4 million goodwill impairment charge, partially offset by $4.9 million lower compensation expense.
Selected financial highlights are presented in the following table.
Table 1: Three-year average balance sheet and net interest margin. Average balances are daily averages and yields are calculated on a fully tax equivalent basis.
Net Interest Income
The following table describes the extent to which changes in interest rates and changes in the volume of interest-earning assets and interest-bearing liabilities have impacted interest income and interest expense during the periods indicated. Information is provided in each category with respect to changes attributable to changes in volume (changes in volume multiplied by prior rate), changes attributable to changes in rates (changes in rates multiplied by prior volume) and the total net change. The change attributable to the combined impact of volume and rate has been allocated proportionately to the change due to volume and the change due to rate. The table below is based upon reported net interest income.
Table 2: Net interest income rate/volume analysis (not presented on a tax-equivalent basis).
Net interest income, the difference between interest earned on interest-earning assets and interest expense incurred on deposits and borrowings, totaled $505.8 million for the year ended December 31, 2008, compared to $508.2 million for the year ended December 31, 2007, a decrease of $2.4 million. Average interest-earning assets grew by 3.23% to $15.8 billion at December 31, 2008 from $15.3 billion at December 31, 2007 while average interest-bearing liabilities also grew 3.23% to $15.3 billion at December 31, 2008 from $14.8 billion at December 31, 2007. Despite the offsetting growth in interest-earning assets to interest-bearing liabilities, the net interest margin declined by 12 basis points to 3.28% for the year ended December 31, 2008 from 3.40% for the year ended December 31, 2007. The yield on interest-earning assets declined by 102 basis points for the year ended December 31, 2008 while the cost of interest-bearing liabilities declined 91 basis points for the year ended December 31, 2008.
The decline in yields in certain asset classes within the loan portfolio reflects the effects that the 400 basis point reductions made by the Federal Reserve during 2008 have had on the floating rate home equity lines, commercial real estate (CRE) and commercial and industrial (C&I) interest bearing assets. At December 31, 2008 approximately 70.0% of Websters CRE portfolio and 64.4% of its C&I portfolio are floating rate assets, while 97.4% of the equipment finance portfolio is fixed rate. The decline in yields is also impacted by the increase in non-accruing loans. Websters total non-performing assets increased to $263.2 million at December 31, 2008 in comparison with $121.1 million at December 31, 2007, with C&I, residential development, 1-4 family residential and residential construction representing $100.0 million of the $142.1 million increase. The majority of the increase is a result of residential development loans along with 1-4 family residential and construction loans that reflect the continuing challenge of the residential housing market as well as the deterioration of economic conditions of the market in general.
Since net interest income is affected by changes in interest rates, by loan and deposit pricing strategies, competitive conditions, the volume and mix of interest-earning assets and interest-bearing liabilities as well as the level of non-performing assets, Webster manages the risk of changes in interest rates on its net interest income through an Asset/Liability Management Committee and through related interest rate risk monitoring and management policies. See Asset/Liability Management and Market Risk for further discussion of Websters interest rate risk position.
Interest income decreased $126.3 million, or 12.7%, to $869.3 million for the year ended December 31, 2008 as compared to 2007. The decrease in the average yield of 102 basis points was partially offset by an increase in average interest earning assets of $492.4 million. The average loan portfolio, excluding loans held for sale,
increased by $310.0 million for the year ended December 31, 2008, or 2.5%, compared to 2007. Average investment securities increased by $552.6 million for the year ended December 31, 2008, or 22.4%, compared to 2007. In addition, higher yielding commercial and consumer loans partially replaced reductions in residential loans.
The 102 basis point decrease in the average yield earned on interest-earning assets for the year ended December 31, 2008 to 5.58% compared to 6.60% for 2007 is a direct result of actions taken by the federal government to reduce the fed fund rates by 400 basis points during the year ended December 31, 2008. The loan portfolio yield decreased 116 basis points to 5.60% for the year ended December 31, 2008 and comprised 80.6% of average interest-earning assets at December 31, 2008 compared to the loan portfolio yield of 6.76% and 81.2% of average interest-earning assets for the year ended December 31, 2007. Additionally, the yield on investment securities was 5.51%, a 28 basis point decrease over 2007.
Interest expense for the year ended December 31, 2008 decreased $123.9 million, or 25.4%, compared to 2007. The decrease was primarily due to competitive deposit pricing, a decline in average deposits of $445.8 million for the year ended December 31, 2008 and the 400 basis points in rate reductions made by the Federal Reserve, offset by a $925.5 million increase in average total borrowings when compared to 2007.
The cost of interest-bearing liabilities was 2.37% for the year ended December 31, 2008, a decrease of 91 basis points compared to 3.28% for 2007. Deposit costs for the year ended December 31, 2008 decreased to 2.08% from 2.90% in 2007, a decrease of 82 basis points. Total borrowing costs for the year ended December 31, 2008 decreased 189 basis points to 3.45% from 5.34% for 2007.
Provision for Credit Losses
The provision for credit losses was $186.3 million for the year ended December 31, 2008, an increase of $118.5 million compared to $67.8 million for the year ended December 31, 2007. The increase in the provision is primarily due to increased charge-offs and increased reserve coverage levels given the increase in nonperforming loans as well as the general deteriorating economic conditions affecting all of the Companys loan portfolios. For the year ended December 31, 2008, total net charge-offs were $138.1 million compared to $25.2 million in 2007. See Tables 18 through 24 for information on the allowance for credit losses, net charge-offs and nonperforming assets.
Management performs a quarterly review of the loan portfolio and unfunded commitments to determine the adequacy of the allowance for credit losses. Several factors influence the amount of the provision, primarily loan growth and portfolio mix, performance, net charge-offs and the general economic environment. At December 31, 2008, the allowance for credit losses totaled $245.8 million or 2.02% of total loans compared to $197.6 million or 1.58% at December 31, 2007. See the Allowance for Credit Losses Methodology section later in Managements Discussion and Analysis for further details.
Table 3: Non-interest income comparison of 2008 to 2007.
Non-interest revenue which represents the recurring component of non-interest income decreased of $6.3 million, or 3.1%, when compared to 2007. The decrease from the prior year is primarily attributable to the $8.1 million decrease in mortgage banking activities directly related to the closure of National Wholesale mortgage lending, a $1.8 million and $1.0 million decrease in loan related fees and wealth and investment services, respectively, offset by an increase in deposit service fees of $5.5 million. See below for further discussion of various components of non-interest income.
Deposit Service Fees. Deposit service fees increased $5.5 million, or 4.8%, for the year ended December 31, 2008 as compared to 2007. The increase was primarily due to the implementation of a new tiered consumer fee structure during 2008, increased ATM surcharges and increased debit card usage.
Loan Related Fees. Loan related fees decreased by $1.8 million, or 5.7%, for the year ended December 31, 2008 as compared to 2007. The decrease was primarily due to a decrease in loan servicing fee income which is the direct result of fewer loans originated for sale.
Wealth and Investment Services. Wealth and investment service fees decreased $1.0 million or 3.5% for the year ended December 31, 2008 as compared to 2007. The decrease is due to a decline in the value of assets under management due to adverse market conditions resulting in a reduction in management fees earned.
Table 4: Non-interest expense comparison of 2008 to 2007.
Total non-interest expense for the year ended December 31, 2008 was $676.0 million, an increase of a $192.1 million or 39.7% compared to 2007. The increase in non-interest expense for the year ended December 31, 2008 is primarily a result of a $198.4 million impairment charge for the goodwill related to commercial banking, consumer finance and other lending business segments, partially offset by the one time expense of $8.9 million premium for the redemption of Webster Capital Trust I and II in 2007. In addition, the amortization of intangible assets decreased by $4.4 million primarily due to core deposit intangibles from several past acquisitions becoming fully amortized during the year. Further changes in various components of non-interest expense are discussed below.
Compensation and Benefits. Total compensation and benefits decreased by $4.9 million for the year ended December 31, 2008 or 2.0% compared to 2007. The decrease in compensation and benefits is related to workforce reductions from the OneWebster initiative, reduced incentive compensation as well as a decline in benefit expenses.
Occupancy. Total occupancy expense increased by $3.7 million or 7.4% for the year ended December 31, 2008 compared to 2007. The increase in occupancy is primarily expenses related to the de novo branch expansion program, higher rent expense and increased utilities. The Company intends to offset future de novo expansion expenses with consolidation within its existing branch network.
Furniture and Equipment. Total furniture and equipment expense increased by $1.4 million or 2.3% for the year ended December 31, 2008 compared to 2007. The increase is primarily due to higher depreciation on data processing equipment, increases in equipment maintenance contracts and service contract costs.
Foreclosed and Repossessed Property Expenses. Total foreclosed and repossessed property expenses increased $6.9 million or 344.9% for the year ended December 31, 2008 compared to 2007. The increase is directly related to the $22.5 million increase in foreclosed and repossessed property, reflective of higher levels of delinquency and non-performing assets in 2008.
FDIC Deposit Insurance Assessment. Total FDIC deposit insurance assessment increased by $3.2 million or 209.1% due to the expiration of Websters remaining credit that had previously been offset premium assessments. Assessments for 2009 are expected to remain at these levels or greater depending on FDIC actions.
Severance and other costs. Charges totaling $16.2 million were recorded in 2008. Included in this charge was $13.1 million of severance and other OneWebster implementation costs. Additional severance of approximately $1.0 million was recorded for early retirement and other executive changes. A charge of $1.8 million was recognized to reduce the carrying value of a building and office complex currently being marketed for sale to market value and classified as assets held for disposition in accordance with generally accepted accounting principles. See the following table for a breakout of the costs.
Table 5: Severance and Other Costs
Other Expenses. Other expenses decreased $4.2 million, or 6.8%, compared to 2007 due in part to OneWebster expense reduction initiatives.
The results of operations of Webster Insurance and Webster Risk Services are reported as discontinued operations. Loss from discontinued operations, net of tax, totaled $3.1 million for the year ended December 31, 2008 compared to the loss from discontinued operations of $13.9 million for 2007 and income from continuing operations of $0.1 million for 2006. The sales of Webster Insurance and Webster Risk Services were completed on February 1, 2008 and April 22, 2008, respectively. See Note 2 of Notes to Consolidated Financial Statements contained elsewhere within this report for additional information.
During 2008 Webster recognized an income tax benefit of $65.8 million applicable to its loss from continuing operations. As a result of the pre-tax loss and tax benefit, Websters 2008 effective tax rate and other comparative measures are not meaningful for these purposes. In 2007, Webster recognized tax expense of $48.1 million applicable to continuing operations and its effective tax rate was 30.3%.
Websters 2008 tax benefit was impacted by certain components of its loss that resulted in no tax benefit which otherwise would have increased the benefit by over $80 million. Those loss items resulting in no tax benefit pertained to substantially all of the $198 million goodwill impairment (tax benefit of nearly $69 million otherwise) and certain securities losses treated as capital and limited for U.S. tax-deductibility purposes (tax benefit of more than $11 million otherwise).
The other significant item, when comparing 2008 to 2007, relates to a higher level of tax-exempt interest income in 2008 that resulted in an increased tax benefit of more than $2.7 million when compared to 2007.
For more information on income taxes, including Websters deferred tax assets and valuation allowance, see Note 9 of Notes to Consolidated Financial Statements included elsewhere within this report.
Comparison of 2007 and 2006 Years
Websters net income was $96.8 million or $1.76 per diluted share in 2007, compared to $133.8 million or $2.47 per diluted share in 2006, a decrease of 27.7%. Income from continuing operations was $110.7 million or $2.01 per diluted share in 2007, compared to $133.7 million or $2.47 per diluted share in 2006, a decrease of 17.2%.
During the fourth quarter of 2007, management determined that the sale of its insurance agency business (Webster Insurance) would be structured such that the consideration would comprise an upfront payment and additional potential consideration over a multi-year earn-out period. Given this structure, Webster accordingly wrote down the carrying value of its investment and as of year end 2007 reported Webster Insurance separately from its continuing operations. The results of Webster Insurance (and the loss on write-down of the assets held
for disposition to fair value) are shown as discontinued operations, net of tax in the Consolidated Statements of Income. Webster has reported the assets and liabilities of Webster Insurance as assets and liabilities held for disposition at December 31, 2007.
Results from continuing operations include an increase in provisions for credit losses of $56.8 million, severance and other charges of $15.6 million, a net charge of $6.8 million related to the redemption of debt and a $3.6 million loss on the write-down of direct investments to fair value. The net impact of these items was $82.8 million ($53.8 million after tax or $0.98 per diluted share). Results from continuing operations in 2006 include charges of $57.0 million ($37.0 million after tax or $0.69 per diluted share) related to the balance sheet repositioning actions taken in 2006.
The net interest margin for 2007 increased by 24 basis points when compared to the prior year. This was primarily due to increases in higher yielding commercial and consumer loans and a decrease in average outstanding securities and borrowings partially offset by an increase in the cost of deposits. Average interest bearing liabilities decreased $1.2 billion, or 7.3%, with decreases in borrowings of $1.5 billion partially offset by increases in average deposits of $0.4 billion. Average earning assets decreased $1.1 billion, or 6.6%, ($409.9 million in loans and $704.8 million in securities) when compared to 2006 as a result of the balance sheet restructuring actions.
Non-interest income of $202.3 million increased by $70.7 million, or 53.7%, in 2007 compared to 2006. The increase in non-interest income was primarily due to the $48.9 million and $2.3 million in losses recognized to write-down and subsequently sell, respectively, the available for sale mortgage-backed securities portfolio in 2006, the $5.7 million loss on the sale of mortgage loans in 2006 and an increase in deposit service fees of $17.9 million in 2007 compared to 2006 partially offset by a $3.6 million decrease in loan related fees.
Non-interest expenses of $484.0 million increased $47.6 million, or 10.9%, compared to 2006. The increase reflects the impact of severance and other costs of $15.6 million, debt prepayment expenses of $8.9 million and an increase in compensation and benefits of $15.0 million, $3.4 million related to the write-off of software development costs and $2.3 million of closing costs related to Peoples Mortgage Corporation (PMC).
Net Interest Income
Net interest income which is the difference between interest earned on loans, investments and other interest-earning assets and interest paid on deposits and borrowings, totaled $508.2 million in 2007, compared to $508.6 million in 2006, a decrease of $0.4 million. Net interest income is affected by changes in interest rates, by loan and deposit pricing strategies and competitive conditions, the volume and mix of interest-earning assets and interest-bearing liabilities and the level of non-performing assets. The decrease in net interest income is largely due to lower volumes of average interest-earning assets, mostly related to decreases in average securities partially offset by decreases in average interest-bearing liabilities related to decreases in average borrowings.
Interest income (on a fully tax-equivalent basis) decreased $17.5 million, or 1.7%, to $1.0 billion for 2007 as compared to 2006. A decrease in the average interest earning-assets over the prior year was partially offset by slightly higher average yields earned on the assets. The decline in the volume of interest-earning assets is a result of the balance sheet repositioning which began in the fourth quarter of 2006 and was completed by the first quarter of 2007. The average loan portfolio, excluding loans held for sale, decreased by $409.9 million, or 3.2%, compared to 2006. Average securities decreased by $704.8 million, or 23.0%, compared to 2006. Additionally higher yielding commercial and consumer loans partially replaced reductions in residential loans.
The yield earned on interest-earning assets increased 35 basis points for the year ended December 31, 2007 to 6.60% compared to 6.25% for 2006 as a result of the balance sheet repositioning actions. The loan portfolio yield increased 17 basis points to 6.76% for the year ended December 31, 2007 and comprised 81.2% of average interest-earning assets compared to the loan portfolio yield of 6.59% and 78.3% of average interest-earning assets for the year ended December 31, 2006. Additionally, the yield on securities was 5.79%, an 86 basis point improvement over 2006.
Interest expense for the year ended December 31, 2007 decreased $18.8 million, or 3.7%, compared to 2006. The decrease was primarily due to a decline in the average total borrowings of $1.5 billion when compared to the average balance in 2006. This decrease in average borrowings was a result of the balance sheet repositioning actions taken.
The cost of interest-bearing liabilities was 3.28% for the year ended December 31, 2007, an increase of 12 basis points compared to 3.16% for 2006. Deposit costs for the year ended December 31, 2007 increased to 2.90% from 2.57% in 2006, an increase of 33 basis points. Total borrowing costs for the year ended December 31, 2007 increased 33 basis points to 5.34% from 5.01% for 2006. Since the reduction in the prime interest rate and the federal funds rate occurred at the end of the third and fourth quarters of 2007, the effects of the rate decreases are not fully reflected in the Companys net interest margin for 2007.
Provision for Credit Losses
The provision for credit losses was $67.8 million for the year ended December 31, 2007; an increase of $56.8 million compared to $11.0 million for the year ended December 31, 2006. The increase in the provision is primarily due to a $40.0 million provision recorded in the fourth quarter of 2007 related to the liquidating portfolios of indirect out-of-market residential construction loans and indirect out-of-market home equity loans. Additionally, $11.0 million of the provision was recorded in the third quarter related to higher delinquency and non-accrual loans in the home equity portfolio. During 2007, total net charge-offs were $25.2 million compared to $16.4 million in 2006. See Tables 17 through 22 for information on the allowance for credit losses, net charge-offs and nonperforming assets.
Management performs a quarterly review of the loan portfolio and unfunded commitments to determine the adequacy of the allowance for credit losses. Several factors influence the amount of the provision, primarily loan growth and portfolio mix, net charge-offs and the level of economic activity. At December 31, 2007, the allowance for credit losses totaled $197.6 million or 1.58% of total loans compared to $155.0 million or 1.20% at December 31, 2006. See the Allowance for Credit Losses Methodology section later in the Managements Discussion and Analysis for further details.
Table 6: Non-interest income comparison of 2007 to 2006.
Excluding $54.6 million in losses on the write-down of mortgage-backed securities portfolio and the loss on sale of mortgage loans in 2006, the increase of $16.1 million, or 8.7%, in non-interest income over the prior year is primarily attributable to the increase in deposit service fees of $17.9 million and wealth and investment services of $2.0 million partially offset by a $3.6 million decrease in loan related fees. See below for further discussion of various components of non-interest income.
Deposit Service Fees. Deposit service fees increased $17.9 million, or 18.5%, compared to 2006. The increase was primarily due to increases in insufficient fund fees due to the implementation of a new tiered consumer fee structure during 2007, a change in the accounting for deposit losses, increased ATM surcharges and increased debit card usage.
Loan Related Fees. Loan related fees decreased by $3.6 million, or 10.3%, primarily due to a decrease in commercial real estate prepayment fees of $2.6 million.
Wealth and Investment Services. Wealth and investment service fees increased $2.0 million or 7.3% compared to 2006. The increase is due to an increase of $1.9 million in product sales volume and an increase of $0.1 million in trust services sales volume.
Table 7: Non-interest expenses comparison of 2007 to 2006.
Total non-interest expenses for the year ended December 31, 2007 were $484.0 million, an increase of $47.6 million or 10.9% compared to December 31, 2006. Non-interest expense for the year ended December 31, 2007 increased primarily as a result of $15.6 million in severance and other, $15.0 million in compensation and benefits, $8.9 million in debt repayment expenses related to redemption premiums and unamortized issuance costs, $4.9 million in furniture and equipment expenses and $3.3 million in occupancy expenses. Partially offsetting the increase were decreases of $3.5 million in the amortization of intangible assets primarily due to core deposit intangibles from several past acquisitions becoming fully amortized during the year. Further changes in various components of non-interest expense are discussed below.
Compensation and Benefits. Total compensation and benefits increased by $15.0 million or 6.5% from 2006. The increase was primarily due to increases in compensation of $13.1 million and benefits of $1.9 million. The increase in compensation is attributed to merit increases, a full year of compensation related to the acquisition of NewMil, HSA Bank, compliance and regulatory areas, and a reduction in the deferral of salaries related to loan origination costs.
Occupancy. Total occupancy expense increased by $3.3 million or 7.2% compared to 2006. The increase in occupancy is primarily due to a full year of occupancy expense related to the acquisition of NewMil, expenses related to the de novo branch expansion program, higher rent expense and increased utilities.
Furniture and Equipment. Total furniture and equipment expense increased by $4.9 million or 9.0% compared to 2006. The increase is primarily due to higher depreciation on data processing equipment, increases in equipment maintenance contracts and service contract costs.
Severance and other costs. Charges totaling $15.6 million were recorded in 2007. Included in this charge was the discontinuation of the Companys national wholesale mortgage banking activities of $3.5 million, sale of PMC of $2.3 million, a retail office lease termination and a technology service contract settlement for $1.4 million and $1.5 million for the recording of a liability relating to Visa Inc. legal dispute settlements reflecting Websters share as a Visa U.S.A. member. If Visa Inc. is successful in completing its planned public offering, Webster expects that shares received from an anticipated Class B common stock redemption related to its ownership interest in Visa Inc. will more than offset the Visa U.S.A. related liability. See the following table for a breakout of the severance and other costs.
Table 8: Severance and Other Costs.
At December 31, 2007, the remaining liability related to the closing of the Companys National Wholesale Operations was $3.4 million, the remaining liability related to the closing costs of Peoples Mortgage Company was $0.4 million and the remaining liability related to the other severance was $1.2 million.
Other Expenses. Other expenses increased $8.4 million, or 14.5%, compared to 2006 primarily due to increases in broker fees of $1.7 million and an increase in deposit losses and other miscellaneous expenses of $5.0 million.
The results of operations of Webster Insurance were reported as discontinued operations based on managements intent to exit the insurance agency business as of December 31, 2007. Loss from discontinued operations, net of tax, totaled $13.9 million for 2007 compared to income from discontinued operations of $0.1 million for 2006 and $2.7 million for 2005. The sale of Webster Insurance was completed on February 1, 2008. As part of the transaction Webster retained Webster Risk Services, a third-party workers compensation administrator of claims. Webster sold Webster Risk Services in 2008 and has reported its operations as discontinued operations for that year. See Note 2 of Notes to Consolidated Financial Statements contained elsewhere within this report for additional information.
Included in loss from discontinued operations for 2007 was a $14.0 million write-down to fair value charge related to the Companys anticipated sale of the insurance operations. The sale of Webster Insurance was structured such that the consideration comprised an upfront payment and additional potential consideration over a multi-year earn-out period.
Income tax expense decreased from the prior year principally due to a lower level of pre-tax income in 2007. The effective tax rate decreased to 30.3% in 2007 from 30.7% in 2006. The lower effective rate reflects the impact that higher levels of tax-exempt interest income and nontaxable increase in cash surrender value of life insurance had on the reduced pre-tax income offset by a significant increase in state and local tax expense in 2007 as compared to 2006.
Business Segment Results
Websters operations are divided into four business segments that represent its core businesses, Commercial Banking, Retail Banking, Consumer Finance and Other. The segments are based upon the products and services provided, or the type of customer served, and they reflect the way that financial information is currently evaluated by management. The Companys Treasury unit is included in Corporate and Reconciling category along with the results of discontinued operations and the amounts required to reconcile profitability metrics to GAAP reported amounts. See Note 22 of Notes to Consolidated Financial Statements contained elsewhere within this report for further information.
Websters business segments results are intended to reflect each segment as if it were a stand-alone business. The following tables present the results for Websters business segments for the years ended December 31, 2008, 2007 and 2006. The results for 2008 incorporates the allocation of the increased provision for loan losses, other-than-impairment charges and income tax benefit to each of Websters business segments resulting in an increase in the net income of certain business segments as compared to the comparable periods in 2007. For the year ended December 31, 2008, Webster realized a potential income tax benefit for the effects of the increase in the provision for loan losses and the other-than-temporary impairment of certain available for sale securities. Goodwill impairment charges of $6.7 million, $149.4 million and $42.3 have been reflected in the Commercial Banking, Consumer Finance and Other business segments, respectively, for the year ended December 31, 2008. A continuing period of market disruption or further market capitalization to book value deterioration will require additional testing for potential impairment. To the extent that additional testing results in the identification of impairment, the Company may be required to record additional charges for the impairment of goodwill. Management will continue to monitor the relationship of the Companys market capitalization to its book value, which management attributes primarily to financial services industry-wide factors.
Table 9: Business Segment Performance Summary of net (loss) income for the years ended December 31,
Webster uses an internal profitability reporting system to generate information by operating segment, which is based on a series of management estimates and allocations regarding funds transfer pricing, the provision for credit losses, non-interest expense and income taxes. These estimates and allocations, certain of which are subjective in nature, are continually being reviewed and refined. Changes in estimates and allocations that affect the reported results of any operating segment do not affect the consolidated financial position or results of operations of Webster as a whole.
The Company uses a matched maturity funding concept, also known as coterminous funds transfer pricing (FTP), to allocate interest income and interest expense to each business while also transferring the primary
interest rate risk exposures to the Treasury group which is reflected in Other. The allocation process considers the specific interest rate risk and liquidity risk of financial instruments and other assets and liabilities in each line of business. The matched maturity funding concept basically considers the origination date and the earlier of the maturity date or the repricing date of a financial instrument to assign an FTP rates for loans and deposits originated each day. Loans are assigned an FTP rate for funds used and deposits are assigned an FTP rate for funds provided. From a governance perspective, this process is executed by the Companys Financial Planning and Analysis division and the process is overseen by the Companys Asset-Liability Committee.
The Company allocates the provision for credit losses (PCL) based upon expected loss (EL). EL differs from the PCL in that EL is a management tool based on the expected loss over the expected life cycle of a financial instrument, whereas the PCL is determined in accordance with U.S. generally accepted accounting principles (the PCL is the amount necessary to maintain the allowance for loan losses at a level reflecting the probable credit losses inherent in the loan portfolio at a point in time). EL is estimated using assumptions for exposure, probability of default (PD) and loss given default (LGD) for various credit products, risk ratings, collateral and industries. Exposure is the sum of the outstanding balance plus assumptions regarding additional potential draw-downs based on outstanding commitments. EL is calculated on an instrument level basis using assumptions which are reviewed on an annual basis. The EL for an individual loan is calculated by multiplying the principal loan exposure by the PD and LGD percentages. The difference between the sum of the PCL for each line of business determined using the expected loss methodology and the consolidated provision is included in other reconciling items.
Webster allocates a majority of non-interest expenses to each business segment using a full-absorption costing process. Direct and indirect costs are analyzed and pooled by process and assigned to the appropriate business segment and corporate overhead costs are allocated to the business segments. Income tax expense is allocated to each business segment based on the effective income tax rate for the period shown.
The Chief Operating Decision Maker (CODM) uses full profitability measurement reports which are prepared for each operating segment, and these reports reflect EL and FTP. The differences between these report-based measures are reconciled to GAAP amounts in the Other category. These segment results are used as a basis for determining operating segment incentives, capital allocations, and product changes. The reports are reviewed on a monthly and quarterly basis and compare actual to planned results on a direct contribution basis, which is pretax. The operating segments that are generating revenue and revenue opportunities that exceed costs required to generate business and leverage fixed costs are allocated additional resources. The CODM typically has reduced resources to segments that are underperforming.
The Commercial Banking segment includes middle market, asset-based lending and commercial real estate.
Table 10: Commercial Banking Results for the years ended December 31,
Net income decreased $13.9 million, or 34.7%, in 2008 compared to 2007, primarily reflecting a $6.7 million write-down of goodwill and a $6.2 million increase in non-interest expense. The increase in non-interest expense was due to increased compensation costs related to a reduction in the deferral of salaries related to lower loan originations and increased charges for corporate technology administration and shared services.
Net income decreased $1.4 million, or 3.4%, in 2007 compared to 2006, primarily reflecting an increase in non-interest expense partially offset by an increase in net interest income. The $4.2 million increase in non-interest expense is attributable to increased charges for corporate technology, administration and other overhead costs. The $3.4 million increase in net interest income is primarily related to growth in asset-based and non-construction commercial real estate loans.
Included in the Retail Banking segment is retail, business and professional banking, and investment services.
Table 11: Retail Banking Results for the years ended December 31,
Net income for the year ended December 31, 2008 decreased by $39.6 million or 54.2% compared to 2007. Net interest income decreased $44.8 million or 17.3% driven by a decline in revenue earned on the Retail Banking deposit portfolio. The increase in non-interest income of $2.6 million was driven by increased deposit service charges, debit card usage, ATM services charges and investment service fees. Non-interest expense increased $10.8 million due to higher compensation and benefits, higher occupancy costs and increased allocated charges for corporate technology, administration and other shared services.
Net income for the year ended December 31, 2007 decreased $2.2 million or 2.9% compared to 2006 primarily reflecting growth in expenses that outpaced the growth of revenues. Net interest income increased $10.4 million or 4.2%, primarily due to the annualized impact of the NewMil acquisition during 2006. The increase of $20.4 million was driven by a change in the pricing of insufficient funds and a change in the classification of overdraft losses. Non-interest expenses increased $33.6 million due to increased personnel and facilities associated with the NewMill acquisition and de novo branch expansion.
Consumer Finance includes residential mortgage and consumer lending, as well as mortgage banking activities.
Table 12: Consumer Finance Results for the years ended December 31,
Net income decreased by $154.7 million compared to 2007. The decrease is due to a write-down of $149.4 million of goodwill and reduced mortgage banking activity. The $4.3 million decrease in net interest income is primarily attributable to declining short-term interest rates, a flattening of the yield curve and a decrease in the interest on loans held-for-sale due to reduced mortgage originations. The increase in provision of $0.2 million is primarily related to an increase in charge offs. The $7.1 million decrease in non-interest income is primarily related to discontinuation of the Companys National Wholesale Mortgage banking activities. The $7.3 million decrease in non-interest expense is related to business line restructurings. The decrease in assets is attributable to a loan securitization in December 2008 and reduced balances in loans held-for-sale.
Net income decreased $17.3 million or 31.8% in 2007 compared to 2006 reflecting a decrease in net-interest expenses, partially offset by an increase in non-interest income and a decrease in income tax expense. The $13.2 million decrease in non-interest income is attributable to decreases in the residential loan portfolio due to the sale of $250.0 million of residential loans in 2006 and the securitization of $1.0 billion of loans ($0.4 billion in December 2006 and $0.6 billion in January 2007). The $14.5 million increase in non-interest expense is attributable to costs related to the discontinuation of the Companys National Wholesale Mortgage banking activities and the closing of Peoples Mortgage Corporation.
Other includes equipment finance, Webster Financial Advisors, insurance premium finance and HSA Bank.
Table 13: Other results for the years ended December 31,
Net income decreased $45.4 million or 530.0% to a net loss of $(36.8) million in 2008 compared to net income of $8.6 million in 2007. The decrease in net income is directly related to the goodwill impairment charge of $42.3 million incurred in 2008, related to the equipment finance, wealth management and insurance premium finance lines of business. Non-interest income increased $1.6 million primarily due to an increase in deposit service fees generated by HSA offset by a reduction in investment advisory fees earned by WFA due to the overall decline in the market value of assets under management and administration. Net interest income increased $0.7 million, or 2.2%, compared to 2007. The increase reflects an increase in interest income on leases related to growth in the equipment financing portfolio and decreases in interest expense primarily due to a funding credit allocated to the segment for the growth in HSA deposits.
Net income decreased $6.0 million in 2007 compared to 2006 reflecting decreases in net interest income and an increase in non-interest expense. Net interest income decreased $3.7 million due to increased interest expense on deposits and borrowings partially offset by increased interest income on leases related to growth in the equipment financing portfolio. The increase in non-interest expense is primarily due to increases in compensation and benefits related to HSA Bank and wealth management area.
Table 14: Reconciliation of business segments net income to consolidated net income.
Webster had total assets of $17.6 billion at December 31, 2008, an increase of $381.6 million, or 2.2%, from the previous year end. The increase in securities of $986.3 million was due to the $466.5 million residential loan securitization that took place in the fourth quarter of 2008 and the investment of the $225.0 million issuance of the Series A non-cumulative convertible preferred stock. The decrease in loans of $335.6 million was primarily due to a $466.5 million loan securitization, and to a lesser extent, a net increase of $47.2 million in the allowance for loan losses (provision for credit losses of $186.3 million less $138.1 million in net charge offs and $1.0 million increase in the reserve for unfunded credit commitments). Total liabilities increased $244.1 million, with an increase in total borrowings of $653.9 million partially offset by a $469.3 million decrease in total deposits. The decrease in total deposits for the year is related to the lower cost of borrowings versus higher CD rates given the effects of competitive deposit pricing in the market. Websters loan to deposit ratio was 102.5% at December 31, 2008 compared to 101.0% at December 31, 2007.
At December 31, 2008, total shareholders equity of $1.9 billion represented a net increase of $137.5 million from December 31, 2007. The change in equity for the year primarily consisted of the $321.8 million net loss, $63.1 million of dividends to common shareholders, $11.9 million of dividends to preferred shareholders and a $59.2 million unfavorable change in unrealized losses on the available for sale securities portfolio, net of tax offset by the issuance of $617.6 million in preferred stock issuances. The change in equity also included an unfavorable change of $23.3 million, net of tax for a decline in the funded status of Websters pension and other post-retirement benefits. This unfavorable change is directly related to the disruption in the financial markets for 2008. To the extent that future deterioration in the financial markets occur, the Company may be required to record additional charges for the funded status of the plans and future plan obligations. At December 31, 2008, the tangible capital ratio was 7.7% compared to 5.89% at December 31, 2007.
Investment Securities Portfolio
Webster, either directly or through Webster Bank, maintains an investment securities portfolio that is primarily structured to provide a source of liquidity for operating needs, to generate interest income and to provide a means to balance interest-rate sensitivity. The investment portfolio is classified into three major categories: available for sale, held to maturity and trading. At December 31, 2008, the combined investment securities portfolios of Webster and Webster Bank totaled $3.8 billion. The yield in the securities portfolio for the year ended December 31, 2008 was 5.51% as compared to 5.79% for the year ended December 31, 2007. At December 31, 2008, Webster Banks portfolio consisted primarily of mortgage-backed and municipal securities held to maturity and Websters portfolio consisted primarily of equity and corporate trust preferred securities available for sale. See Note 3 of Notes to Consolidated Financial Statements contained elsewhere within this report for additional information.
Webster Bank may acquire, hold and transact various types of investment securities in accordance with applicable federal regulations and within the guidelines of its internal investment policy. The type of investments that it may invest in include: interest-bearing deposits of federally insured banks, federal funds, U.S. government treasury and agency securities, including mortgage-backed securities (MBS) and collateralized mortgage obligations (CMOs), private issue MBSs and CMOs, municipal securities, corporate debt, commercial paper, bankers acceptances, trust preferred securities, mutual funds and equity securities subject to restrictions applicable to federally charted institutions.
Webster Bank has the ability to use the investment portfolio, as well as interest-rate financial instruments within internal policy guidelines, to hedge and manage interest-rate risk as part of its asset/liability strategy. See Note 18 of Notes to Consolidated Financial Statements contained elsewhere within this report for additional information concerning derivative financial instruments.
The securities portfolios are managed in accordance with regulatory guidelines and established internal corporate investment policies. These policies and guidelines include limitations on aspects such as investment grade, concentrations and investment type to help manage risk associated with investing in securities. While there may be no statutory limit on certain categories of investments, the OCC may establish an individual limit on such investments, if the concentration in such investments presents a safety and soundness concern.
Total investment securities increased by $986.3 million from December 31, 2007. The available for sale securities portfolio increased by $549.3 million while the held to maturity portfolio increased by $415.3 million, primarily due to the securitization of $466.5 million of residential loans, purchases of agency mortgage-backed securities and to a lesser extent, municipal bonds and notes.
Table 15: Carrying value of investment securities at December 31,
For the year ended December 31, 2008, the Federal Reserve cut the Fed Funds rate by 400 basis points in response to the financial market crisis brought on by the sub-prime mortgage concerns, and short term rates declined more than intermediate and long term rates. Credit spreads continued to widen as recession and liquidity concerns gripped the market. Although rates on U.S. Treasury securities fell as investors sought the safety of these instruments, yields on credit sensitive fixed income securities significantly increased as investors required more return to take on the credit and liquidity risk of these types of bonds. This development negatively impacted the valuation of the credit sensitive portion of the investment portfolio, specifically corporate bonds and notes.
For the year ended December 31, 2008 the Company recorded write-downs for other-than-temporary impairments of its available for sale securities of $217.3 million ($184.1 million in debt securities and $33.2 million in common and preferred equity securities). The Company held $201.2 million in investment securities that had been in an unrealized lo